“The human species, according to the best theory I can form of it, is composed of two distinct races, the men who borrow, and the men who lend.”
—Charles Lamb
The route the majority of people with disposable income take to make their money grow is by investing. However, really smart investors are figuring out that there is an even greater way to put their money to work for them and add to their portfolio by becoming private lenders.
There are many good reasons to diversify at least a portion of your portfolio by becoming a private lender. The Rules of Thumb blog from MoneyThumb has listed the six best reasons below:
1. A historically proven strategy.
Private lending has been a proven way to generate profits for centuries. In fact, there are records of private lending agreements as early as 3,000 B.C., showing people loaning to others for defined time periods in exchange for “interest” paid in wheat, livestock, shekels of silver, or other commodities. One crazy fact is that interest rates of 20% – 40% were common in ancient times.
During the Great Depression in the late 1920s and 1930s, the stock market in the U.S. was just over 100 years old and had experienced many crashes. Investors soon learned that what goes up may go down… way down. After severe losses, many investors swore off the stock market and instead, started lending money to those who needed capital to purchase or temporarily finance properties. They soon discovered that their losses were few and the returns were great.
2. Predictable returns.
When you invest in the stock market, you are essentially placing a bet that the price will go up. Historically, this may be true more often than not. When you loan money as a private lender, you have an agreement that specifies how much you’ll be paid and when. Properly constructed and with the right borrower, this delivers very predictable returns, such as a monthly check that comes like clockwork.
3. Excellent cash flow.
In addition to passing the test of time banks and other lenders are some of the most profitable businesses in the world. In this low-interest environment, you can earn several times what your bank is paying, without the unpredictability of the stock market. And if interest rates at banks go up, so will interest rates for private lenders. That’s because there will always be people who need to borrow money outside of mainstream channels.
4. Diversification.
Not only does private lending help diversify a stock-heavy portfolio, but through private lending, it is also very easy to diversify amongst different types of assets or real estate investments in different locations. And of course, you can practice private lending with different types of assets, such as a real estate bridge loan, a fractional real estate equity investment, or a collection of peer lending loans.
5. A secured investment.
If you are lending on real estate, your investment will likely be secured by the property itself, perhaps with the first deed of trust, although there are several different ways that private lending deals can be structured.
If you are doing the deal yourself, you will definitely want an appraiser to verify that the property is worth substantially more than the amount you are lending. The lower the loan-to-value percentage, the more security you have for your investment.
6. Leveraged investment opportunities.
It’s called arbitrage: By investing money you have borrowed at a lower rate to earn a higher rate, you can earn an exceptional rate of return and expand your investments. Say you take out a cash loan at an interest of 4%, then make loans to individuals at an interest rate of 10%. It doesn't take a math whiz to see what a great idea this is. Professional private lenders do it all the time. That's how they money without using their own personal capital.
As you can see, becoming a private lender is a really good idea if you have expendable capital or even just really good credit. We hope the above tips have helped you decide to become a private lender if you were on the fence. We also want you to know that MoneyThumb has PDF financial file converters designed specifically for lenders. This will allow you to quickly convert the bank statements of potential borrowers to help you make informed lending decisions. Take a test drive of our powerful PDF converters today.
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