Private mortgages: Benefits, drawbacks, and how to get one

Maybe you're self-employed and can't document enough income to get the mortgage you need. Or maybe your credit score tanked at the worst possible time, derailing your mortgage approval. 

Whatever the reason, if you're struggling to get approved for a traditional mortgage loan, you may be tempted to think outside the box.

What you'll find outside the box includes private mortgage lenders who often operate outside the scope of government agencies and conforming loan rules.

But know this: Cutting away layers of oversight also removes precautions that can make borrowing safer for you, the consumer. That's why people who get private mortgages should start with an exit plan already in place.

What is a private mortgage loan?

A private mortgage loan can finance a home purchase without going through traditional channels.

Private loans are often funded by private investors. Since private lenders use their own deposits, and since they don't have extra security from the federal government or the broader markets, approval rules can be more relaxed.

For the same reasons, interest rates for private loans tend to be higher.

Let's take a closer look.

...in as little as 3 minutes – no credit impact

How private mortgages differ from traditional loans

To most home buyers, traditional mortgage lenders provide either conventional loans, which conform to rules set by Fannie Mae and Freddie Mac, or government-insured loans that follow rules set by the government agency that insures the loan, the FHA or VA for example.

Before approving one of these loans, the lender has to make sure the borrower, and the home itself, check the right boxes. These boxes, which include income, credit score, debt, and home appraisal checks, are designed to protect lenders and borrowers alike.

A private mortgage can bypass some of these traditional lending rules. So, a borrower who's self-employed and writes off a lot of work expenses, lowering their income on paper, may still qualify. Or a borrower with too much debt to qualify for a traditional mortgage may get approved. 

Along with different rules for approval, private loans often include shorter terms, balloon payments, or significantly higher interest rates than traditional mortgages. As we'll see next, many borrowers who get these loans plan to use them temporarily.

Who typically uses private home financing

Private mortgages appeal to specific borrower groups who face obstacles with conventional lending or borrowers who need the loan for only a short time. These groups can include:

• Self-employed borrowers: Self-employed people can struggle meeting a lender's traditional income verification rules. Small business owners, freelancers, contractors, and entrepreneurs often don't have W2 forms or pay stubs. Self-employed homeowners may also write off work expenses to lower their taxable income. This also lowers income from the lender's point of view, making approval more difficult. 
• Borrowers with credit problems: These borrowers may find private lenders more forgiving. The same bankruptcies, foreclosures, or credit scores below 620 that make conventional loan approval difficult may not prevent private financing approval. Then, once the borrower's credit improves, they can refinance into a traditional loan. 
• Real estate investors: Investors who plan to rent or flip a home like the faster approval process private lenders can offer.

...in as little as 3 minutes – no credit impact

Types of private mortgage loans

Private mortgage financing comes in many forms, each designed for specific borrower situations and property types. They include:

Portfolio loans

Portfolio loans resemble traditional mortgage loans but the lender keeps the loan in house instead of selling it on the secondary market. Since the lender will keep the loan, the loan doesn't always have to conform to external rules, increasing the approval odds for borrowers.

Portfolio loans work well for unique properties or borrowers whose finances don't fit conventional underwriting guidelines: someone who earns income from assets but not much income from wages, for example. 

Owner financing

This type of private loan eliminates third-party lending entirely. The property's seller acts as the bank. The buyer and the seller negotiate interest rates, down payments, and repayment terms directly.

This arrangement can benefit both parties, especially when conventional financing proves difficult or expensive, but buyers should run the contract by an attorney or another independent expert.

Hard money loans

Hard money loans serve real estate investors who need to buy property fast. The borrower's credentials don't matter as much to hard money lenders. These lenders focus mainly on the value of the property.

Loans can be approved quickly, often within days. Hard money loans tend to have higher interest rates than other forms of borrowing, but an investor may keep the loan for only a year or two. These loans work well for fix-and-flip projects.

Bridge loans

These loans solve timing problems between multiple property sales. A borrower might use one to buy a new home before selling a different property. Or, bridge loans can help buy an investment property or construction project while arranging permanent financing.

Bridge loans typically last six to 12 months and cost more than conventional loans but less than hard money loans.

Bank statement loans

Bank statement loans and other alternative income loans help self-employed borrowers, freelancers, and business owners who struggle with traditional income documentation. Instead of W-2 forms and tax returns, these loans analyze bank statements, investment portfolios, or profit-and-loss statements to determine the borrower's ability to repay.

Private mortgage loan pros and cons

Private mortgages have advantages and disadvantages borrowers should know about.

Private mortgage advantages

• Fast approval: Private loan borrowers may get decisions in days rather than weeks. In general, private lenders focus on the property's value in relation to the loan size more than they focus on the borrower's credentials.
• Flexible qualifying rules: Private lenders evaluate a borrower's overall financial picture and exit strategy. This can open doors for borrowers who don't fit traditional lending boxes.
• Alternative income verification: Bank statements and asset values replace W-2 requirements. Self-employed professionals, freelancers, and business owners can access financing based on actual cash flow rather than tax return complications.
• Customized loan terms: Negotiate repayment schedules, down payment amounts, and other terms directly with lenders. This flexibility lets you structure deals around your specific investment timeline or financial situation.

Private mortgage disadvantages

• Higher interest rates: Expect to pay significantly higher interest rates compared to traditional borrowing. Borrowers should make sure they understand APR, prepayment penalties, origination fees, and closing costs. Private loans don't always have to disclose details the way traditional lenders do.
• Shorter repayment periods: Most private loans last six months to three years instead of traditional 15- to 30-year mortgage term. Many private loans include balloon payments which means the entire loan balance will be due all at once. 
• Less regulatory protection: The Consumer Financial Protection Bureau (CFPB) protects traditional mortgage borrowers by regulating the loan process. Private mortgage lenders may not be subject to the same federal consumer protection requirements that apply to traditional, owner-occupied residential mortgages.
• Higher upfront costs: Larger down payments, higher origination fees, appraisal costs, and processing charges can add to a private loan's upfront costs.

Private mortgage loans work best when their benefits outweigh these higher costs for a borrower, and when the borrower has plans to refinance or pay off the loan quickly. 

How to get a private mortgage

Getting a private mortgage requires a different approach than traditional bank applications. 

Step 1: Define your financing needs and exit strategy

Start by clarifying exactly why you need private financing and how you plan to transition out of it. 

Common exit strategies include:

• Refinancing to a conventional loan once credit improves or income stabilizes
• Selling the property after renovations
• Paying off the loan with money received from another property sale

Step 2: Research and compare private mortgage lenders

Find potential lenders through real estate networks, investment groups, or mortgage brokers. Examine their loan terms, interest rates, and fee structures carefully. 

Key factors to compare:

• Interest rates and APR
• Down payments (or loan-to-value ratio) sizes
• Fee structures and closing costs
• Repayment terms and flexibility

Be sure to look beyond the base interest rate to the APR, which reveals true borrowing costs. 

Step 3: Prepare financial documents and property details

Private money lenders will need specific documents. They may include:

• Bank statements that show monthly earnings
• Tax returns and pay stubs (or alternative income verification for self-employed)
• Recent property appraisal documenting current value
• During the application process, the lender will request more documents.

Step 4: Apply, negotiate loan terms, and close the deal

Focus on understanding the complete cost structure during negotiations. Watch for hidden charges, unclear repayment terms, and aggressive prepayment penalties that could impact your financial future.

FAQs about private mortgage loans

Does private lending come with risks?

Yes, private mortgages bring risks borrowers should understand upfront. Interest rates typically run 2 to 5 or more percentage points higher than conventional home loans. Check the APR, not just the base rate, to see the real borrowing cost. Watch for large upfront fees, unclear repayment terms, and aggressive penalties.

What happens if I miss payments or default on a private mortgage?

Just like with a conventional or government-backed loan, defaulting can lead to foreclosure. Private lenders may move more quickly through foreclosure proceedings compared to traditional banks and credit unions. Your property serves as collateral, giving the lender legal authority to foreclose, sell the property, and use the proceeds to recover their investment if you stop making mortgage payments.

Are private mortgage lenders subject to regulation?

Private mortgage lending operates mostly outside the regulatory framework that governs traditional mortgage lending. Fewer consumer protections exist. It's best to deal exclusively with well-established companies and understand all terms completely before signing any agreements.

What are the main advantages of private mortgage loans?

Private mortgage loans offer flexible terms, faster approval processes, and easier qualification for self-employed borrowers or home buyers with credit challenges. They can provide access to temporary financing when traditional lenders can't approve a loan.

What should I consider before getting a private mortgage?

Before pursuing a private mortgage, carefully evaluate the true borrowing costs, including the APR and any hidden fees. Have a clear exit strategy, such as refinancing or selling the property. Only work with well-established lenders and fully understand all terms before signing any agreements.

What is private mortgage insurance?

Despite its name mortgage insurance has little to do with private mortgages. Private mortgage insurance, or PMI, helps protect conventional mortgage lenders in case a borrower defaults on the loan.

Is a private mortgage loan the right choice?

Private mortgages serve a purpose, especially for investors, but traditional mortgages offer the best long-term home financing for typical home buyers.

If you need a private mortgage loan to stand in until you can qualify for a permanent mortgage like a conventional loan or an FHA loan, shop carefully and be sure to compare several loan offers.

Better Mortgage does not offer private mortgage loans, but it can be part of your private loan exit plan. Better is open 24/7 and ready to work with clients who need long-term home financing.

Start with a pre-approval to get an estimate of your monthly payment and rate.

...in as little as 3 minutes – no credit impact