Private Lending in Real Estate How It Works and What Borrowers and Lenders Need to Know
Private mortgages fill a critical gap in real estate financing used when institutional lenders won't lend or when speed and flexibility matter. The legal framework governing them is the same as institutional lending, but the risks on both sides require careful attention.
What is a Private Mortgage?
A private mortgage is a loan secured against real property where the lender is an individual, a group of investors, or a private mortgage investment corporation (MIC) rather than a bank or regulated financial institution. Private lending is common in commercial real estate, bridge financing, construction lending, and situations where a borrower cannot qualify for conventional financing.
The legal mechanics are identical to institutional lending: the borrower grants the lender a mortgage (charge) on title to the property as security for the loan. If the borrower defaults, the lender can enforce the mortgage through power of sale or foreclosure.
Why Private Financing?
Borrowers turn to private lenders for several reasons:
- Institutional lenders have declined the loan (credit issues, property type, property condition)
- Speed is critical institutional lenders can take weeks or months; private lenders can close in days
- The property is complex or unusual and institutional lenders won't fund it (raw land, mixed-use, properties under development)
- Bridge financing short-term private financing to bridge the gap between a property purchase and longer-term institutional financing
- Construction financing for developers
- Non-recourse financing structures that institutional lenders won't provide
The Cost of Private Capital
Private financing is more expensive than institutional lending interest rates, lender fees, and broker fees are typically higher, reflecting the higher risk the lender is taking. Borrowers should understand the all-in cost of private capital before committing:
Typical costs in a private lending transaction:
- Interest rate: typically 8–18%+ per annum depending on risk profile and LTV
- Lender fee: 1–3% of the loan amount, paid on advance
- Broker fee: if a mortgage broker arranged the financing
- Legal fees: borrower typically pays both their own and the lender's legal fees
- Appraisal: private lenders typically require an independent appraisal
- Title insurance: required by most private lenders
First Mortgage vs. Second Mortgage in Private Lending
The priority of the mortgage on title determines the lender's recovery in enforcement:
A first mortgage lender is paid out first from the proceeds of a sale under power of sale. Their risk is lower they are ahead of all other creditors in the proceeds.
A second mortgage lender is paid only after the first mortgage is satisfied. If the property sells for less than the combined outstanding debt, the second mortgage lender may not recover their full amount. Second mortgage lending is therefore significantly higher risk and commands higher interest rates.
The Private Lending Documents
A properly documented private lending transaction includes:
Commitment Letter
A signed commitment letter from the lender setting out the key terms: loan amount, interest rate, term, fees, conditions of advance, repayment terms, and default provisions. This is the binding agreement that precedes formal documentation.
Mortgage / Charge
The mortgage document itself, which grants the lender a security interest in the property and is registered on title through Teraview. The mortgage contains: the repayment obligation, the power of sale and foreclosure rights, standard covenants (insurance, taxes, maintenance), and default provisions.
Promissory Note
A standalone acknowledgment of the debt the borrower's unconditional promise to repay the principal and interest. Often used alongside the mortgage, particularly in second mortgage or unsecured loan contexts.
Personal Guarantee
If the borrower is a corporation, private lenders almost always require the principal(s) to personally guarantee the loan. The guarantee is the lender's recourse against the individual if the corporate borrower defaults and the property security is insufficient to satisfy the debt.
Direction re: Funds
A document directing the lender's lawyer to advance the funds to the appropriate party (usually the borrower's lawyer's trust account) on closing.
Key Due Diligence for Private Lenders
Before advancing funds, a private lender should ensure:
Private lender due diligence checklist:
- Independent appraisal of the property from a qualified appraiser
- Title search confirming the borrower's ownership and the absence of prior registered interests that would affect priority
- Writ and PPSA searches against the borrower
- Confirmation that property taxes are current
- Building insurance in place, with the lender noted as loss payee
- Zoning and compliance searches (particularly for commercial properties)
- Phase I ESA for commercial or industrial properties
- Review of any existing leases affecting the property
- Corporate authority review (if borrower is a corporation)
- Title insurance for the lender's interest
Power of Sale in Ontario
In Ontario, lenders commonly enforce mortgage defaults through power of sale, which allows the property to be sold without first going to court. For private lenders, this is often the preferred remedy because it is generally faster, less expensive, and more efficient than foreclosure.
Once a borrower defaults, the lender must serve a Notice of Sale Under Mortgage on the borrower and any other parties with an interest in the property. The borrower then has a redemption period to bring the mortgage back into good standing or pay out the debt in full before the sale proceeds. The length of that redemption period depends on the specific terms of the mortgage and the applicable statutory provisions, and is not the same in every case.
If the default is not cured within the applicable time period, the lender may list and sell the property. Sale proceeds are applied first to the outstanding mortgage balance, accrued interest, and enforcement costs. Any surplus remaining after the debt is satisfied must be paid to the borrower or other entitled parties.
Key points on power of sale in Ontario:
- Power of sale is a common mortgage enforcement remedy in Ontario
- It allows the lender to sell the property without a court proceeding
- A Notice of Sale Under Mortgage must be served before the sale can proceed
- The borrower has a statutory opportunity to redeem the mortgage
- Any surplus proceeds after repayment of the debt go back to the borrower or other entitled parties