I recently met someone who has been playing the game of investing in real estate for capital gains. What this means is you buy a property for a low price and hope that it will increase in value and your profit will be the spread between what you originally paid for it and what you can sell it for in the future. Future value can be forced up if you make improvements to the property but most speculators or investors who invest for capital gains count on the value increasing simply due to the economy. During good economic times properties can appreciate approximately 5% per year but during very hot economic times properties can appreciate 20%, 30% or more and this is when the speculators come out of the woodwork. This type of investing isn’t much different than investing in the stock market. You can make lots of money while the market is increasing but when the market drops you can lose lots of money. Robert Kiyosaki doesn’t call this investing but rather speculating.
This particular person was in the business of buying small apartment buildings, doing some minor upgrades and then changing the legal status of the property so that the individual units could be sold off in a condo corporation. As with the stock market, this plan worked great while the market was appreciating but like all cycles the market cooled off and this investor now has these apartment condos that they can’t sell because the price of condos has dropped approximately 40%.
This person has two obvious choices. The first is to sell the units at a loss and the second is to rent the units. The challenges are they don’t want to be landlords and they don’t want to lose money. The investor did come up with an interesting option which they bounced off me. They want to market the units to new investors at slightly above market value. In turn they would provide the financing for up to 90% of the value based upon the same finance rates they are currently paying. Interesting concept, I thought, but I decided to play devil’s advocate and ask the most obvious question a new investor would have. What if the value doesn’t increase by at least 10% to the point it is at least worth what I paid for it?
Now the old investor is willing to hold the financing at very low rates for a period of up to five years, so the likelihood of the property increasing in value over the next five years is good but certainly not guaranteed. The investor suggested that they could revisit the deal at that time; however, this would not be very reassuring to most investors. I suggested that in order to make this more attractive to a new investor they should offer a guarantee and when I suggested this they had this very puzzled look on their face. What I was suggesting was if the property failed to increase in value to at least the value the new investor pays for the property initially then the deal is cancelled and the 10% deposit would be returned. The investor could see the benefit of offering the guarantee but they were concerned about where they would come up with the money to honour the guarantee (if they needed to) because they would most likely have used the initial down payment for something else and they may not have the cash available to pay the guarantee. This is true so I suggested that the guarantee be conditional upon you being able to sell the condo to another new investor and the down payment they receive from the new sale would pay the guarantee.
They would now be creating a low risk win/win scenario, making it much easier for a new investor to get into the game. There are still other challenges; however, because although they claim the properties will cash flow at approximately $100/mth, they haven’t taken management fees or maintenance costs into consideration. The management fee would certainly reduce the profit by at least 25% and they wipe out the remaining profit with a single capital expense such as a new fridge.
With this in mind I would not consider this to be a good cash flowing deal; however, if a person wanted to play the speculation game with minimal risk then this might be a good opportunity. This is just one more example of seeing the benefit in gaining more knowledge so that you can see more opportunities. The investor is obviously educated and experienced enough to suggest an unconventional investing opportunity and then with my experience and education we were able to fine tune the opportunity even better. Without this knowledge and experience the investor would have much fewer options and possibly lose a lot of money.
This lesson was recently reinforced when an Inner Circle reader contacted me after reading my book. She had recently sold a rehab home for a $10,000 LOSS and after reading my book she realized she had other options. Learning through the school of hard knocks can be very expensive and unnecessary.Keep reading, learning and investing.
Everyone wants to purchase real estate or ultimately own real estate with no money down. I will mention that no money down isn’t all that easy; however, structuring a deal with none of your own money is quite feasible. The challenge is you are not going to find an investor willing to give you money with nothing in return; therefore, you need a Joint Venture (JV). There is no clear simple answer for how to structure a JV because you could have 1 partner, 2 partners or ten partners and how you put the deal together can be extremely simple to very complicated. Each joint venture is unique and the terms and conditions are different depending on the requirements of the joint venture partners. For this post we will assume there is one JV partner willing to put 100% of the deposit down in exchange for a 50% equity share. So the question now is “How do I end the JV partnership in the future so that I can eventually have 100% ownership and be able to give the property to my children?”
First of all, I strongly recommend you speak with your accountant about how best to structure your business to benefit your children. Stephen Covey said it best when he wrote, “Begin with the end in mind.” Your accountant and lawyer are your best advisors on your power team to help you set up your joint venture to meet your end goals.
So how can I end a JV partnership in the future? Let’s create a scenario; I purchase a 21 unit apartment building for $850,000 and the bank will finance 85% which means that I need to have approximately $140,000 to pay for the 15% plus closing costs. My investor provides me with the $140,000 in exchange for 50% of the equity. The property earns $21,000 cash annually so I pay the investor $14,000 annually so that the investor earns an annual 10% ROI (return on Investment) on the cash flow.
In five years when it is time to renew the mortgage on the property I will refinance the property and buy out our investor as follows. The new value is $1,034,000 and when I refinance for 85% LTV (loan to value)I will get a new mortgage for $878,900 but I will have to pay off the balance of the original mortgage which has been reduced to approximately $655,000 leaving me with $266,400. ($1,034,000 x 85% = $878,900 -$655,000 = $266,400). Now I have to determine how much my investor will want in order to be removed from the title of the property. What if I paid my investor all of this equity? So, I would first give the investor back their original $140,000 leaving $126,400 ($266,400 $140,000) as earned interest over a five year period. Remember, the investor also received $14,000 per year for a grand total of $196,400 interest earned over five years. This would translate into a 28% annual return on their investment.
I could structure the original joint venture agreement in such a way that when I am able to refinance the property and pay out my investor so that they receive a minimum 30% annual return the JV partner agrees to accept the pay out. In the above example, I did not achieve the minimum 30% so I could keep the agreement for one more year. Once I am able to achieve the 30% interest payout then the buyout clause is triggered and once the transaction is completed I would then own 100% of the property without ever having to invest any of my own money.
However I structure any of my deals I have to keep several things in mind. What does my Joint Venture partner want? As long as I am satisfying their needs then the deal is a “win” for them! What are my needs? I need to keep my needs in mind when structuring the deal so that I too “win”. And as long as the scenario is “win/win” for both parties (and I have run my idea past my lawyer and accountant to ensure that it is legal), then you can be as creative as you like when structuring your joint venture deals.
This is just a small sample of the type of creative financing I teach when I mentor students. There are far too many scenarios to be able to explain in a short post but this helps get the wheels turning. If you have some questions regarding creative finance please feel free to email your question to me and perhaps I can use your question or a version of it as the source for my next topic. If you are interested in learning more about my mentoring services please feel free to contact me.
Happy investing and keep learning
This is a follow up to last month’s blog post where I explained how you can sell a mortgage and how beneficial it can be at times. When speaking with students about how they can sell a mortgage the question most students have is where can I sell a mortgage once I have created one? There are several sites on the internet that operate out of the U.S that buy mortgages but the reality is there are people in your own backyard who buy mortgages all the time. You just need to know who to ask.
This is where I ask my students to put on their thinking caps and try to think of who could possibly be interested in buying a mortgage document secured by real property paying out a decent rate of interest. Keep in mind that many investors would be happy earning 10 to 15% interest on a well secured mortgage. Do you think your lawyer or accountant might know someone? How about your doctor or chiropractor or dentist? Some of these potential investors may need to be educated about the great opportunity but that’s part of your job.
So let’s get started by creating a scenario to demonstrate this creative technique. Keep in mind that the technique I am about to share with you will be difficult to accomplish normally but it should spark some creative ideas for you. When Ted was a young man he was been convicted of 28 counts of bank fraud. He has just been released from prison where he spent the last four years learning the trade of welding. The 28 counts of bank fraud sound fairly serious; however, what really happened is that Ted wrote false cheques which he then deposited to his account through an ATM. Not the brightest thing to do but he was a young male and he made a mistake. So do you think any bank will ever consider lending him money given that he was convicted of 28 counts of bank fraud? Yet, he is now a licensed welder earning a very good salary and is a contributing member to society. He learned the errors of his way and now wants to get on with his life.
Ted meets the love of his life and they want to settle down in their own home and start their own family but the bank won’t talk to him. He turns to us to see if we can help him because he has seen our Rent-To-Own ads, but even this program won’t work for him because he will never be able to qualify for a mortgage in the future. However, I do have a possible solution which will only work in a buyer’s market. I find a suitable house with a very motivated vendor anxious to sell. I approach the vendor and negotiate a purchase price significantly lower than the original asking price. The vendor was asking $200,000 but is now willing to sell it to me for $150,000. Once I know what the lowest acceptable price is, I then approach the vendor to see if they would be willing to create three new vendor held mortgages totalling the full amount of the original asking price. One of the conditions of the 3 VTB’s (Vendor take back) is that I must be able to sell these three mortgages within two weeks at a price satisfactory to myself. If I am unable to sell all three mortgages then the purchase and sale agreement will become null and void, much the same as if it was conditional upon financing.
The three mortgages will be created as follows:
First Mortgage 60%LTV* =$120,000.00 @ 6% interest over 25 yrs. Payment is $750/mth.
Second Mortgage is 25%LTV*= $50,000 @10% interest only. Payment is
Third Mortgage is 15% LTV*= $30,000 @14% interest only. Payment is $350/mth.
*loan to value
The total monthly payment for all three mortgages will be $1,517.00. I ask my potential purchaser,Ted, if he can afford this payment and given that he is considered cash rich but credit poor, he agrees.
What other choice does he have if he wants home ownership? He will have to pay a slightly higher monthly payment in order to be able to enjoy home ownership.
My next step is to find private investors who would be willing to purchase these mortgages. If the investor doesn’t like the interest rate that I have arranged on the 3 VTB’s, then I may have to discount the value of the mortgage. Let’s assume that current interest rates are approximately 4% and given the first mortgages loan to value is only 60% with the attractive rate of 6% we may not have to discount it more than $2,000 in order to help the investor offset legal costs. Next I find an investor willing to purchase the second mortgage. They want a higher interest rate than 10% to be in second place, so they are only willing to pay me $42,000 for the $50,000 mortgage. My biggest challenge is
finding someone willing to buy the third mortgage because this will be the highest risk mortgage being in third place. After some door knocking I find an interested investor but they will only pay me $10,000 for the $30,000 mortgage.
So let’s see what I was able to do with the mortgages:
First mortgage sold for $118,000.00
Second mortgage sold for $42,000.00
Third mortgage sold for $10,000.00
This means I was able to collect $170,000 for the three mortgages which then gave me enough cash to pay the vendor the $150,000 he wanted and I can keep the $20,000 as my reward for putting the deal together.
Again, I want to stress that this type of deal will likely be very difficult to do as outlined above but it should help you start to think a little more creatively. I also need to explain to you that the most people cannot broker a mortgage agreement, just like we can’t sell someone else’s property without being a real estate agent. You need to be a mortgage broker in order to create mortgages and sell them, so you put the details of the mortgage agreement together in a worksheet and give it to the lawyer on your power team for them to prepare, because legally your lawyer is a mortgage broker.
Once again we have created a win/win/win/win scenario where the vendor gets what they want, the client gets a home for his family, the investors are receiving a good return on their investments and I am rewarded for my hard work. These are the types of ideas and thoughts I share with my students during a mentorship. It is often after a mentorship that students look back and start recognizing many opportunities they have missed just because they didn’t know what some of the options were.
Your success will be dependent upon your wiliness to acquire education and the wiliness to do what you haven’t done before.
See you at the top.
I recently completed a mentorship for a Mother/Son partnership and they brought me on board to help them solve a challenge. The challenge was that they had remodelled an existing rental property and then they wanted to sell it. What they hadn’t taken into consideration was the neighbourhood they did this in. When they originally purchased the property years earlier they recognized what the area was like and worked with the area by maintaining the property as a decent rental property. When they decided to rehab the property and sell it they discovered that they spent too much money and made the house almost too attractive for that neighbourhood. They did a great job but now they needed to sell it for more than what people who wanted to live in that neighbourhood were willing to pay.
What to do? They quickly realized the challenge.
So in order to try and make as much profit as possible yet keep the price low they decided to sell it by themselves. They also recognized the value of having it staged so they hired a company to stage it for $500/mth. Going rates for similar homes not as nicely finished as theirs is approximately $190,000 but they needed to get $210,000 and the house was worth every penny or more if it was in a different neighbourhood. When they started the rehab they figured it would sell within 6 months and it is now 9 months later. My suggestion was a quick and easy suggestion. Do a “Rent To Own”! This would allow them to get the asking price they need to get in order to make it worthwhile, all be it three years down the road, but they would also be receiving above market rents for those three years. If the tenant buys in three years, great and if not then great as well because they can sell it again. The other option I gave them was cut their losses and list the property ASAP and simply get rid of the problem. At least this way they can move forward and make up the loss with better decisions in the future.
Learning this simple technique and how to apply it was worth thousands of dollars to them. They were also then able to benefit from the remaining time we had together to learn many other creative real estate techniques which they can apply moving forward.
Recently, I have been quiet with respect to my real estate, therefore I had fewer challenges resulting in less need to be creative, hence no topic to write about. So what is the lesson with respect to creative real estate? Quite simply you need to have challenges to solve in order to be creative, without challenges there is no need for creativity. Most people look at a challenge and automatically think “I can’t do that” and what they need to start thinking is “how can I do that?”.
Creativity starts with your mindset and your beliefs.
Changing your mindset and beliefs is a whole other topic which I talk about during my mentorships but I will leave that for another time to write about. The reality is that it is all connected so you need to continue down the path of learning so that you can continue to grow and as you grow you will naturally become more creative and finally, you need to take action so that you can have some challenges to solve.
I can’t tell you the number of times people ask me how to do creative real estate deals as if it is a matter of just teaching a simple technique or showing them a magic formula. The reality is the more knowledge you have related to real estate the more options you will have and the more creative you can become. I would like to share with you a short story which will show you how a creative deal was created over time.
In 1989 I answered an ad in the local paper regarding an opportunity to become a real estate agent. I decided to give it a shot and this was the first time I met Bob (not his real name), a local real estate broker. Bob was, and still is, an extremely nice man and he provided me with plenty of encouragement and mentoring so off I went to become a licensed real estate agent. Three years later I gave up; I was trying to scratch out a living in a very competitive industry during a very depressed market. I was frustrated because it seemed like I was getting all the difficult listings or opportunities and any creative ideas I had were rejected because the people mentoring me told me my ideas were illegal and couldn’t be done.
Fast forward to 2009 - Bob has been retired for a few years now and he spends a lot of his time working on his rental properties that he and his partner acquired over the years. Recently Bob called me to see if I would have any interest in purchasing one of his multi-unit rental properties. I am ALWAYS interested in acquiring more properties. I knew Bob had many years of experience in residential real estate but his experience in commercial real estate was very limited. I asked Bob to provide me with the numbers, which I received on a handwritten piece of paper, with “estimate” expenses for the current year and then I made an appointment to meet with Bob and his partner to discuss the opportunity and determine what he wants for the property.
I arrived at 9:00 a.m. and I immediately began to build upon our past relationship. I had never met Bob’s partner before so I initially focused a lot of my attention on her. She is a very interesting lady and we quickly discovered some common interests. After 90 minutes of talking about them I decided to start focusing upon the reason for my visit. I started to direct the flow of our conversation to the real estate deal, asking questions with the intention of finding out what their want or need was. I started to focus the attention on why they are selling and what they need out of the deal besides just money. Our conversation quickly turned to the fact that Bob and his partner had lost a large percentage of their RRSP portfolio during the most recent downturn and the amount Bob’s partner was withdrawing shrank from $400/month down to $175/month. I discovered their first need – an increase to her monthly cash flow! They found that keeping the rental property was starting to be too much work for them as they are both in their late sixties and early seventies and they thought they could then invest their profits back into their investments to help offset their recent losses. I had just uncovered a big part of their motivation for selling, so now I need to see if I can help solve their problem.
The next step was to determine the price they wanted for the property so I asked Bob how he arrived at the value he felt the property is worth. He quickly admitted that he really didn’t know how to properly evaluate the property from an investor’s perspective. It was finally time for me to educate him so I opened my computer and shared with him the analysis of his property. I walked him through the process, line by line so that he could understand why I was entering certain values. There were all the obvious values such as the rental income, property taxes, insurance, etc., that he had provided me but there were other costs that he had neglected to provide numbers for such as maintenance, snow removal, grass cutting, management fees, advertising, legal and accounting, to name a few. He readily agreed that these were all realistic values and would need to be taken into consideration.
It became obvious very quickly that I did not view his property to be as valuable as he did, so what were we to do? When I purchase real estate I always try to purchase the property with as little of my money as possible and this time is no different. Keeping in mind that Bob’s wife has an RRSP fund that now only pays out $175 per month, I decided to see if there is some way I can create or increase her monthly income back to the $400 she was accustomed to receiving. I plan on financing the property using CMHC financing at 85% loan-to-value (LTV) which means I need to come up with another 15% for the down-payment. If I have Bob’s wife place a second mortgage on the property, using her RRSP funds, I then create a win/win scenario. I am able to give Bob’s wife a $400/month payment which makes her happy and I only have to put $5,000 into a property which will generate approximately $3,500 per year for me after all expenses including debt payments are made. Bob’s wife is extremely happy and excited with this offer because she is able to improve her monthly cash flow by investing in her own property as well.
I was able to accomplish this win/win deal because I took the time to build a relationship, discover a problem and solve the problem. This was easier to do because I was able to communicate directly with the seller. Most investors don’t understand how they can create a relationship if there are real estate agents involved but the reality is that it is still possible. If you have agents involved in a deal then you must ask permission to present your offer; however, some agents will tell you this is not allowed. It is allowed and it is well within your rights. What isn’t within your rights to do is to negotiate in person. If, for whatever reason, you are unable to meet the seller face to face then I suggest that you include a personal cover letter with your offer. This letter can provide some basic back ground about you and why you want to make this purchase. The intent is to make a connection so that you can create an environment where the seller wants to sell to you.
Bottom line here is that great deals are created through great relationships, so do your best to develop a relationship with the seller.
Never stop learning, never stop looking for the win/win in all your business endeavours.
My best deal was when I purchased a 21 unit apartment building that had originally under contract for $400,000 which was easily 50% below the after repair value. Prior to the inspection I had guessed that we would need to spend approximately $150K in order to fix this property up but after the inspection we determined that this number was far too low. Since we already had a property in our portfolio which was requiring a fair amount of our immediate attention we decided to walk away from the deal. I informed the vendor that the only way we would be interested in moving forward with this deal is if he would drastically reduce the price further and even then we weren’t sure we would take it.
An Offer He Couldn't Refuse
The vendor responded with another substantial reduction in the price but even then my wife said that we should walk. This price was so ridiculously low now that I couldn’t just walk away; I figured there had to be some way to make something out of this deal. That was when I thought of a person who lives in the same area as the subject property who is a contractor and is also an investor. I called this person and asked if he would be interested in owning a multi-unit apartment building with no money down? His obvious and immediate response was “Of course!” Now, given that he is a contractor and he will most likely do the repairs to the building himself, he will do very well. I too will do very well because I plan to purchase the property using hard money at 12%, hold it for three months while the contractor works on the property and then sell it to the contractor for a nice profit.
The funny thing with this deal is that there were two accepted offers on this property prior to mine but both deals died when the purchaser discovered just how much work was required. When we discovered how much work was required that spelled opportunity, especially since the two previous deals both died. The elderly vendor had reached the point of just wanting to dump the property and since I was also prepared to walk away the vendor decided to cut a deal. It was all good and fine that we got a great price reduction but we still didn’t want the property and because of my network I was able to turn this into another win/win/win situation where the tired vendor gets rid of his problem, we gain financially and the contractor also gains financially.
Closing the Deal as soon as Possible
The plan was originally to close on the deal later in the year and then sell the property to the contractor a day or two later and in the interim I would manage the property for the vendor. We started to clean up old outstanding rents and create new leases and when I discovered how much rent I would be collecting for the vendor I decided I should close ASAP and take advantage of these rents, even if it is just for two or three months. This is when I decided to borrow the funds from a hard money lender in order to close earlier than planned. This will result in us increasing our profits by approximately $10K.
Twice now I have mentioned a hard money lender and this may be a new term for some of the readers. A hard money lender is someone who has a substantial amount of cash or access to cash and they act like a bank, lending money privately to investors like myself. They are most often used for short-term financing or when normal avenues for borrowing money just won’t work. This money isn’t cheap though, it can run anywhere from 10% up to 20% depending on the use and the terms.
I recently found a new hard money lender by chance and this individual is an elderly investor who has made his fortune doing exactly what we are doing today. After spending just an hour with him listening to some of his past deals I realized that I just found my “RICH DAD”.
I have touched on several lessons in this article...
The first lesson is the value in recognizing a good deal, being patient ,and don’t not be afraid to walk away from the deal, even after investing some money in it and importantly, when it doesn’t make sense. Keep the Emotions out of the deal.
The second lesson is the value of a good inspection, which can be used for negotiations in a price reduction as well as giving you an educated assessment of what really needs to be done to a property.
The third lesson is the value of your network. As you meet people in your real estate dealings, you need to be aware of their needs and desires. You never know when you may have the opportunity to do business together. My networking found the property, financed the property and sold the property which ultimately increased my net worth.
Happy Investing and start networking!