Posted by Brent_IL on January 31, 2002 at 16:18:57:
My slow typing is a killer and I can’t get the spacing right.
Here are two examples of how terms can alter the present value of the selling price. I?ll give you the deal terms and some background but I won?t get into the mechanics of the transactions. I?m a poor teacher at best, and the how?s-and-whys would generate scores of emails that would beget hundreds more. What you read is what you get.
I explain to the seller that two types of people buy SFH; owner-occupiers and investors. Since he doesn?t have any O/O, we might as well look at his property the way an investor would. He gives me the information to answer the question, ?What value can this property support?? Take the probable monthly rental rate and subtract taxes, insurance, maintenance, and a vacancy rate. What?s left after adjusting for a cash return on a down payment is what can go toward a new first. In my area, the monthly net ranges between .35 and .41 of 1% of FMV which supports a sales price around 60% of FMV.
No matter how the seller reacts, or how reluctant he or she may be to accept this as a fact, I just point to the numbers supplied by the seller and shrug. I do solve whatever problems the seller may be facing, but my primary purpose is to allow the sellers to suspend belief long enough to view circumstances in the way that I describe as reality.
To be effective as a terms investor one needs to develop the ability to tell the seller things that are truthful, and yet outlandish, with a straight face. It has to make sense at the time.
So much for paying all cash. Now for the real deal.
Example #1 ? Straightforward. This isn?t my most advantageous offer, but it?s pretty low;
FMV - $100,000. Free and clear. Seller asking $120,000. He thinks seller-financing at less than 10% is an affront to God and man.
Remember that no one is talking to these sellers because they are greedy, and most often they hold strong, but incorrect, opinions about the worth of their property.
OFFER #1: Interest rate is applied to the selling price, and added to the selling price. Then term is computed. I usually don?t finance 100%. I give the seller a down payment of 8 to 12% because I want him to use up all but $1,000 paying my costs and fees. He needs the $1,000 to save face.
Example (rounded to $): Same facts as above. Seller says, ?I want 10% interest?;
Asking price $120,000
Multiplied by .01 $ 12,000
Added to total $132,000
Divided by $400
(always round up
to next full payment) 330 months
Effective Annual Percentage Rate
of $100,000 loan (true FMV) with monthly
payments of $400 for 330 months.
(amount of interest you are paying) 2.116814%
OFFER #2: Interest rate is applied to selling price, and paid as a balloon with the last payment.
Example (rounded to $): Same facts as above.
FMV $120,000
Multiplied by .01 $ 12,000
$120K divided by $400
(always round up
to next full payment) 300 months
Payment schedule is $400 for 299 months, and a final payment of $400 plus $12,000, or $12,400.
Effective Annual Percentage Rate
of $100,000 loan with monthly
payments of $400 for 299 months
and a final payment of $12,400.
(amount of interest you are paying) 2.132135%
Example #2 ? This is a real deal, but not so straightforward;
It is my firm belief that normal sellers can be ruined by inexperienced or lazy real estate agents.
This guy called a well-recommended agency, but got a newbie doing floor time. The agent, fearing competition and seeking to buy the listing, persuaded the owner to list his property at $175,000. Although listing price was over 30% higher than comps, this amount was fixed in the seller?s mind. It was listed on MLS and was often shown, but was used by more experienced agents to sell other, more correctly priced property. After 90 days plus a 90 day extension with no offers we come to agent #2. It was re-listed at $175,000. Two showings, no offers, and the 60 day listing expired. The third agent, citing the recession, listed the house at $159,900. The seller believed beyond any doubt that the $15,100 difference was coming out of his pocket. The actual range on the appraisal ten months after signing his first listing contract was $141,300 to $145,000. It would rent for $1,200.
The third agent is my agent who did nothing but enter it into the MLS because she knew it was shopworn. She told me about it only because I asked for a new list of properties that had been on the market longer than six months.
The seller had owned the property for nine years. He bought it for $102,000 with cash to an $80,000 loan. He still owed ~$70,300 with monthly payments of $587.02.
Keeping in mind that I always have the right to substitute collateral, these are the terms that we closed with:
This is Illinois. Everything is in a trust.
Contract price $160,000 ? over 10% higher than FMV
Owner carried $160,000 - $70,298 (the 1st mortgage balance), or $89,702 @14% interest for a term of 12 years. The monthly payments are $1289.14 I?m also responsible to pay the first.
The seller received $32,000 at settlement, but NOT as a down payment.
Seller pays for all of my costs, as well as his.
Now, for the rest of the story!
Even though payments are being recorded, I can avoid paying on the $89,702 note for 52 months.
During negotiations, the seller agreed that the first 10% of his note payments could go directly to pay down the principal balance. First 15 months x $1289.14 = $19337.10. The remaining $70,364.90 is paid up at the end of 87 more payments plus $407.
When my agent asked me what I was going to do with it I said honestly that I didn?t know yet. I did know that I would be O.K. for over four years. She said she had a couple who would like the house but only had $15K in cash and could qualify for $110,000.
Because I had SOC I sold them the house for $149,900. They put $12,500 down and got a first for $100,000. I carried a second for $37,400 at zero interest for 60 months. Their payments are $699.22 + $623.34 to me, or $1,322.56 per month. I gave them 60 days to make the first payment. They are very happy.
I?m happy, too.
At closing I got $115K, gave the original seller $32K, and paid off the first of $70,298. My closing costs were only $800 in additional legal and Title Company fees because most of the costs were paid by the original owner. I had $11,900+ in the hip bank.
Here?s the recap from my point of view:
Received -
$11,900 at close;
Nothing more for 60 days. then
$623.34 each month for 52 months. No 1st loan; no first payment;
Pay out ?
-$665.80 for 8 months ($1289.14-$623.34);
-$1289.14 for 27 months + $407 with last payment.
We started out paying too much for a property. We put too much down. We agreed to pay an interest rate almost double the current rate. We agreed to a very short term. And for what?
It?s better than a loan at no interest. It?s unsecured, and the IRR is less than zero. My total time in the deal was about 80 minutes. It took longer to draft this reply.
I wonder if I could make a higher return than zero on the cash flow. Let?s see, some rehabbers are paying 18% + 10 points for hard money loans, and say they have a hard time finding lenders. That?s an effective rate of over 30%. Hmm.
Welcome to the wonderful world of transaction expediting.