By Michael Del Prete | AZREIA
As real estate investors, we are in the business of doing deals. Sometimes, to get the deal done, you have to work outside the traditional structure and find a more creative solution that makes all those involved happy. This way you’re not leaving a good deal, and money, on the table.
If you haven’t learned the basics of creative deal structuring, now is a good time to start learning and using these strategies. If the market slows down and deals are harder to come by you don’t want to leave anything on the table. This is where the real opportunity comes in. By knowing how to structure a deal creatively, you can snag the deals other investors don’t know how to make work. This is how you come out on top, no matter if the market is white hot or in a deep recession.
To further explain, I will take you through a few of the common creative structuring techniques:
Subject To
This is a great strategy if you have a homeowner lead who is behind on their mortgage payments or is already in foreclosure. This strategy involves you, the investor, taking title to the property while the existing loan on the home stays in the name of the seller.
How this is good for the investor:
- Buyers can purchase the property without traditional financing and fees
- No limits on Subject To deals since the loans are not in the buyer’s name
How this is good for the homeowner:
- Avoid foreclosure and losing their home
- Avoid damaging credit scores that can prevent homeownership in the future
Though, there is a risk associated with this kind of transaction. If the homeowner files for bankruptcy, even though you own the home and its equity, the original lien holder can foreclose on the property. You can however put the Subject To transaction in the name of a trust and selling the beneficial interest of the trust in order to avoid triggering any due-on-sale clauses. This is a great way to quickly build an income-producing portfolio of properties and build your wealth rapidly.
Lease Option
Many people also know the lease option as rent-to-own, which is where the investor leases their property for normal monthly rental payments with an option for the renters to buy (at a pre-determined price) at any time during the agreement. The rental payments can be used as a negotiation tactic, too, as they can be agreed to be credited back to the renter once they exercise their option to buy the property from the investor.
How this is good for the investor:
- You can charge higher-than-market rents
- On-Time payment clauses allow you to incentivize the renter into paying rent by a certain date each month or that month’s payment does not get credited back upon purchase
- You set the terms of the sale you can build in expected appreciation and have a guaranteed sales price
- Tenants will treat the property better since they expect to buy it
How this is good for the renter/prospective buyer:
- Get their dream home even if they can’t afford to buy it outright yet
- Agree on the price of the home so they know what to save
- Rent goes towards owning the home, and goes ‘right back into their pockets
This is a great option for investors who want an available ‘out’ of their buy-and-hold strategy. This way you can make a steady cash flow and sell the property for more than you purchased it for, leaving you getting significantly more out of the property than it cost.
Owner Carry (Owner Financing)
Traditional financing can be unavailable to some buyers, so you, the investor, will finance the deal. This provides buyers with an opportunity for an alternative form of credit. This is a short-term loan with a balloon payment (typically) at the end where the buyer will likely refinance with a traditional lender with improved credit and will have equity in the home.
How this is good for the investor:
- The loan period is typically a shorter timeframe than traditional mortgages
- Set your own interest rates, down payment, and schedules
- Closing costs are significantly lower
- Can increase the sales price
How this is good for the buyer:
- Can purchase a home without traditional lending
- Gives them time to improve credit before refinancing
This is a helpful option in an uncertain real estate market for both buyers and sellers. It allows the investor for cash flow on a home, avoids closing costs for both parties, and provides more flexible financing option terms to make the seller and buyer happy.
Wraps
‘Wraps’ are short for ‘wraparound mortgages.’ If you’re an investor looking to buy a rental property, but securing traditional financing is difficult due to things like your debt-to-income ratio or credit score. A wrap can help you get a second mortgage (or junior loan) taken out directly with the seller of the property.
How this is good for the investor:
- Can purchase with poor credit or high debt-to-income ratio
- No traditional financing needed
- Down payment can be less than 20%
How this is good for the seller:
- Can set interest rates
- Can make cash flow
The most important part of determining if a wrap is the right way to structure the purchase of a rental property is to analyze the estimated future income derive from the rental property. Because the seller is financing the loan, they can set higher interest rates, which means higher payments. You want to do your due diligence to make sure the rentals’ cash flow will make for a lucrative investment.
Smarter Investing,
Mike Del Prete
Executive Director