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Passive Income | Private Lending Investment

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Private lending is a great way to earn passive monthly income from real estate without having to buy, sell, own or manage physical properties. In this article you'll find some of the benefits and risks of private lending investments...

David Garner

Published On: September 22nd, 2023

Private Lending Investments

There are a few ways to earn income from your investments; dividends, business profits, royalties, and interest income.

Historically, interest income has been considered the lowest risk option, with CDs and savings accounts topping the list of investment options.

Nowadays, savvy investors are looking further afield for a better return. Many are choosing to lend their own money privately in exchange for a much higher rate of interest.

Private lending to real estate investors in particular can deliver passive income returns in the range of 8% to 15% per year.

So, let’s take a look at some of the key benefits and risks of private lending investments…

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What is Private Lending

Essentially, private lending is where one private induvial or entity lends money to another.

For real estate investors (borrowers), private lending is a way to access short-term capital to execute real estate deals. These include fix and flip or rental property investments where long-term mortgages are not appropriate.

As a passive investor (lender), private lending is a way to earn a great rate of interest and passive income with very little work after the initial set up.

Anyone can be a private lender. Often, investors will use their self directed IRA retirement accounts to lend funds in order to make a better tax-deferred return.

My Top 5 Benefits of Private Lending Investments

There are plenty of reasons why investors might choose to participate in private lending. Here is my top 5 benefits of private lending for passive investors…

1. A Better Return on Investment

Private lending usually pays pretty well, especially when compared to other asset classes and investment strategies.

A better return on investment means you can grow your wealth faster. In doing so, you also protect your wealth against the eroding effect of inflation.

If a private lending investment is well planned, executed and managed, it is not untypical to earn double-digit annual returns.

2. Diversification

Diversification is the bedrock of risk management. Like the old saying goes; don’t keep all your eggs on one basket.

A private lending investment shares almost zero correlation with often volatile financial markets. This makes it an ideal addition to a portfolio looking to diversify into new assets and strategies.

3. Passive Income

While no investment is truly 100% passive, private lending is about as close as you can get.

Passive income – especially monthly income – is an incredibly powerful wealth creation tool. Regular passive income can be immediately reinvested into other income-bearing investments, thus harnessing the power of compound interest!

Passive income is also an important consideration for investors nearing the end of their investing horizon. They may want to draw down cash for living costs without having to eat into their lump sum capital.

4. Control Over Your Investments

As a private lender, you retain full control over your investment decisions.

You get to choose who you lend to, what type of deal you do, what interest rate you’re going to charge, and what type of real estate and project you’ll lend on.

More and more investors are starting to take back control of their financial health. Let’s be honest, most investment managers have grossly underperformed considering the huge amount of money they make!

5. An Asset-Backed Investment

Unlike stock and bonds, private lending investments are secured against physical real estate.

This is the ultimate backstop for your investment. If the borrower defaults or fails, you can foreclose and force a sale of the property to recoup your money.

In today’s digital age where on-screen value can disappear overnight, there is a huge appeal to an investment backed by something real and physical and that you can see and touch.

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Risks of Private Lending

Now of course, there’s no such thing as a perfect investment. All investments carry some kind of risk, and private lending is no different.

Here are some of the key things to look out for based on my experience of well over 100 private lending investment deals.

1. Credit Risk

Credit risk is primary the risk you take when you lend money to someone. It is essentially the risk that they might default and not pay you back.

Of course, there could be many reasons for a borrower default. Some of which might not even be under their control. That said, properly vetting your borrower before you lend any money (known as underwriting) is essential.

2. Market Risk

As with any traded asset, real estate exists in a market. Usually, your borrower will be relying on a sale or refinance of the property to pay you back.

In some cases, market conditions may change. It may be harder to sell the property. The price may drop. or it may be harder or more expensive to get a refinance loan.

There is not a great deal you can do to stop market conditions changing. You should however make you private lending investment decisions with one eye on the market.

3. Property/Project Risk

Often a private lending deal will involve some kind of renovation work on the underlying security property.

As with any construction project, things can go wrong. Costly problems can be uncovered mid-project. Costs can over run. The project might take much longer than expected. Work can be sub-standard and need a re-do. Permits could be an issue.

All of these things matter, so as a private lender it’s important to consider just how much you want to lend against any one project or property.

Conclusion

So there you have it… 5 benefits and 3 risks of investing in private lending.

Of course this article isn’t a comprehensive introduction to the subject, but hopefully now you have a decent idea of why so many folk are considering private lending investments as part of their overall investment allocations.

Ideally, you also have an idea of some of the risks of private lending as well.

If you’d like to learn more about my own investing in private lending, you can see what I do here.

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Passive Income | Private Lending Investment

David Garner

Private Lending Investments

What is Private Lending