Had A Very Interesting Call Today...Creative Deal - Posted by Vic

Posted by Vic on March 04, 2001 at 02:49:57:

All right Eric…you’re really getting to the heart of things now. Very good post!

You’re first point is a very good one in that I (or whoever I’d have involved in the deal) would have to be careful in that I wouldn’t want some attorney coming back on us saying that we took advantage of him. That is something that really needs to be considered especially if the “paper” sales price were to eventually be 60K (or 5K or 100K or whatever). This is just a brilliant point that could easily be overlooked.

If I’m not mistaken I believe the federal gov’t can go back & undo anything from the last 36 mos., if it can be shown that the seller did what he did to avoid estate taxes.

As for the investors I would use, I doubt if there’s any need at all to worry about them. The one in particualar that I’m thinking of owns a mtg. co, buys & sells notes, makes hard money loans, does land contracts, has an escrow company, etc. In fact, he’s been a member of our REIA group for years & spoke at our meeting not long ago about this very same thing. He could handle it.

But are you saying that I should attempt to put this deal together myself with me as one of the principal’s or to just get a fee for putting the buyer & seller together & let them work out the details?

The only way I can think of that I’d be able to do this deal as a principal is by using your option idea. I would then have to put the investors together & I would have to make certain that it was a strong, strong deal in order to know that I could find others (if needed). I do love your idea of doing this though. I just wonder if I’d be better off to collect my fee & move on. Let them structure it however they see fit.

So if I understand you correctly what you are saying & in the order you would approach this are: (forgetting about the actual #'s)

First - Offer him all cash, using investors that I find to put up the cash - with him to have a life estate. Use an option to do this.

Second - Offer him 5-10K down with monthly payments of whatever, all to go to option price, again with me putting together the investors & again with him to have a life estate. And again using an option.

Third - Put the people together, collect a fee & move on.

Correct???

Also, you can relax. Whenever I look at buying something, I ALWAYS look to see if I can do it with zero interest. If they own it outright, you can bet I’m going for zero interest payments. If they have a first & I’m paying them equity, I can guarantee you I’m not paying any interest on that equity at all. I avoid interest at all costs as often as possible. So don’t worry about that, I can assure you I deprogrammed myself of paying interest long ago. LOL

I do remember talking to you a while back about that substitution of collateral. I remember you had some good points back then too. I remebered your name was Eric, but I couldn’t remember exactly which Eric it was that I talked to. So I’m glad to finally solve that mystery. I’ve been losing sleep for months over that. LOL

Aren’t you in Texas? Also, didn’t you live here in New Orleans before? Hope things are going well. Keep up the great posts.

Oh, for what it’s worth, I agree with you about getting started by being an agent or stock broker or something of that nature. I sold life insurance for 7 yrs before getting my real estate license. I’ve been doing real estate exclusively for the last 8 yrs (first 6 as agent). I can tell you firsthand that having a background in both those fields has helped immensely.

I really can’t understand how someone could want to be an investor & not at least, audit a real estate licensing course. It’s kind of like not knowing anything about cars, walking into a mechanic shop & saying you want a job. You have to learn the basics before you can do much good.

Vic

Had A Very Interesting Call Today…Creative Deal - Posted by Vic

Posted by Vic on March 03, 2001 at 03:11:08:

Hi everyone!

I received a very interesting phone call today. The call came from an 83 yr. old man.

This older gentleman told me that he had a house worth 137K (I would say closer to 125K, but that’s close enough for this discussion).

Anyway, he asked me if I’d be willing to buy his house by giving him $60,000 up front plus give him $600 a month until he dies. He would continue to live in the house, until he dies (unless he was to go into a nursing home).

He would want it set up so that the house could not be sold, as long as he’s alive. Kind of like a life estate. Even if he went into a nursing home, the house still couldn’t be sold. It could be rented though.

According to him, the house is in very good shape & doesn’t need anything. All insurance, maintenance, taxes & grass cutting would be paid by me. I drove by the outside & it does appear to be in pretty good shape.

As I mentioned above this man is 83 years old. This man’s health is very questionable. He had a quadruple bypass 11 years ago. He also has an aneuryism.

All he wants out of it is $60,000 plus $600 a month for as long as he lives. If he were to die a month after we closed the deal would be a very profitable one. But, if he were to live another 15 yrs., then the deal would probably lose money, even after factoring in appreciation.

Analyzing this deal, it would cost me $7200 for every year that he’s alive, but the house would probably have a modest 2 or 3% appreciation per year. It is in a decent, single family home type area.

Unfortunately, the last time I pulled my nickels & pennies out of my piggy bank, I didn’t have anywhere near 60K in it.

I do however know a couple of members in my local REIA group who do have the money & could fund this type of deal. They could also handle the monthly pmts.

So I’m curious how many of you’ll think this would be a good deal? If you had the money, would you do this type deal?

If nothing else the old guy certainly came up with a creative idea that I hadn’t seen anywhere. Kind of reminds me a little bit of a reverse mtg.

So, what do you think?

Vic

Re: Had A Very Interesting Call Today…Creative \ - Posted by Nate

Posted by Nate on March 03, 2001 at 18:59:55:

Why doesn’t the guy just get a reverse mortgage?

NT

Louisiana Alligator… - Posted by HR

Posted by HR on March 03, 2001 at 17:01:02:

Vic,

I don’t like this deal at all. Knowing where you want to take your biz in the next year or so, I think this type of thing could be a big distraction (not to mention money drain).

Here’s a thought, though. I think Tom might just buy this kind of thing. Did you hear his talk to the reia group about 6 months ago about properties he buys with negative cash flows? I woulden’t get this undercontract yet; I’d let Tom do that. I’d get as much info on your seller as you could, call Tom and give info without conveying the address, and see if Tom might be interested in buying. Or, you could get an exclusive listing agreement as an agent just to sell to Tom exclusively. That way, you let him execute this somehow, but you get a creative “flip” fee. Just a thought.

Sounds like a fun afternoon. Good luck,

HR

Another take… - Posted by Eric C

Posted by Eric C on March 03, 2001 at 10:55:47:

Hi Vic -

I used to do variations of this on farms and ranches all the time.

It’s rare that you meet someone that wants to leave their home for a long-term care facility. They all want to remain in familiar surroundings as long as possible and I don’t blame them one bit.

At the same time, there is this little thing about economics. I have to make some profit here. It’s mandatory and without it, I can’t stay in business.

I would never never count on appreciation to bail me out on a deal like this. Let me repeat that - never!

I have a friend who teaches business finance and ethics (what a combination, right?) at a university. One problem that he assigns to his class early in the semester is a variation of your scenario.

Only this time, it’s an elderly woman. Friendly investor is contacted and asked to purchase the home and let the woman remain. Investor likes the idea, but doesn’t have the cash. He puts the deal together with the use of a couple of other investors (for the monthly payments) and borrows the upfront money from a local bank using the house as collateral.

See the problem on looming on the horizon?

Partner investors become unable (for whatever reason) to continue to make payments after a few years, primary investor carrys the project as long as possible, but soon the loan is in default and foreclosure date is set this week.

That’s the scenario. Here’s the problem.

You are the president of the bank. It’s your first day in charge. What do you do?

The correct answer is: you foreclose. As much sympathy as you may have regarding the situation, you’re responsibility is to your stockholders (many of whom are elderly)and your institution.

Now, that’s his correct answer. Mine would be different.

But the problem was caused by errors in perception followed by more errors in execution.

The perception error: People who don’t have cash, but can make monthly payments are NOT investors. They are at best, weak partners. If I can do no more than to convince you of that fact, I will have saved you much agravation and heartache down the road. No cash - no deal. You put yourself at the mercy of their cashflow which is too easily interrupted.

There will be many who disagree. I don’t care. Taking on “investors” with out cash reserves is like scuba diving without an airtank. You can do it, but it’s gonna cost you - I guarantee it.

The execution error: Part of this error is depending on others who are too weak to add value, part is becoming dependant on appreciation that may or may not occur, and the last part is pure fantasy.

How is this remotely a deal? Under the best of circumstances? Maybe.

If the man ends up in a nursing home for whatever time, you may lose it all anyway. Most states have provisions to recover their costs (Medicaid) from the estate. Under certain circumstances they can look back at all transactions in the preceding 60 months.

Will your deal be perceived as fair-market? Or will the state decide to take part of your profit away from you.

Why not structure this as a straight option? You can insert whatever language appeals to you and that passes muster with all the parties.

This man does have an attorney, right?

Reduce the amount of upfront money. Increase the amount of monthly money. Since you’re using an option (no liability on your part) you can use your “weak” investor partners. If they fail to pay, you substitute someone else and they lose their share. Period.

By raising the amount of monthly money, you can allow this man some cashflow and still apply it to the balance (strike price) of the option.

Take heed of what Phil said. In my family, everyone seems to live well into their nineties and several are over 100.

A situation like that will definitely affect your math.

Take care,

Eric C

Re: Had A Very Interesting Call Today - Posted by phil fernandez

Posted by phil fernandez on March 03, 2001 at 09:56:05:

My sense is that you are giving the old guy too much with both the upfront $60,000 in cash plus $600 per month which is another $7,200 per year. I would give him a choice of one or the other. Either a lump sum of $60,000 cash or just the monthly payments for his house. Remember you have no cash flow coming in to offset the $600/mo. that is going out. You further have no cash flow to make the payments on the $60,000 bank loan.

I disagree with David below with the 73% of FMV formula. The insurance industry may use this formula based on age but remember they are dealing with thousands upon thousands of accounts. If some one lives to be 120, because of their volume of business they can absorb the hit. If your guy lives to be 120 you’ll get clobbered. Read my post below. I did a life estate with a 89 year woman who lived to be 104. Think I had a few more payments to her then I originally expected. LOL.

Saying all this you still can craft a deal with a life estate, but make sure the numbers you use are to your advantage. The uncertaintly of life expectency is a definite risk to you the investor. You may also want to put a cap on the life estate where it will only run for the next 8 years as an example.

The idea below about having all monthly payments go toward the debt to achieve a 0% interest deal and building up fast equity is a great idea also.

The value of a life estate is… - Posted by David Krulac

Posted by David Krulac on March 03, 2001 at 09:11:22:

73% for an 80 year old man and 79% for an 85 year old man. If the property is worth $100,000, then the value of the remainder for an 80 year old man is $73,000, according to one table.

Life Estate - Posted by Monique

Posted by Monique on March 03, 2001 at 08:59:39:

Vic,

You will definitely want to read the thread below called “Life Interest in Real Estate”

http://www.creonline.com/wwwboard/messages/14352.html

Monique

Re: Had A Very Interesting Call Today - Posted by Bryan

Posted by Bryan on March 03, 2001 at 08:37:57:

Accept his deal at $137K, with the limitation that you’ll pay a grand total of $137K and once you’ve paid that much, you have full right to do whatever you want. This gives you a zero interest loan and massive equity buildup. And it gives the guy nearly 11 years of income. At 83 years old, 11 years is fairly optimistic.

This assumes, of course, that you can get the $60K at sufficiently favorable terms such that the additional $600/month won’t eat you alive.

BE SURE to have an attorney draw up the paperwork for this one. Very unusual transaction. Kinda like a twisted reverse mortgage.

Re: Louisiana Alligator… - Posted by Vic

Posted by Vic on March 03, 2001 at 21:56:37:

Hal,

I agree there is no way I could do this deal on my own or even attempt it.

I do remember the talk that Tom gave. In fact, Tom was the main one I had in mind. Homer was the other. In fact I spoke to Homer about it & he said to call him back on Wed. But I’m with you, I think it’s something that would interest Tom.

My original intention was to be a small partner in the deal, one that wouldn’t require me to have much cash in the deal, & instead be more like the property mgr & then when it comes time to sell, be the agent. In return I’d receive a small percentage of the profit (assuming there is some).

Hal, wasn’t that great? - hanging around chatting after the board meeting. I know you & I have done it several times before, but it was nice having Al there too, with all his years of experience. It’s great to sit around & bounce ideas around. I always pick up something from chats like that don’t you?

Sometimes, it’s just the subtle things, but at least it adds some clarity & gives me some ideas. Everyone should be doing it.

Talk to you soon,
Vic

Re: Another take… - Posted by Vic

Posted by Vic on March 03, 2001 at 22:24:48:

Eric,

That’s a very good point you have about the gov’t going back 60 mos. or so to look & see what he’s done. That’s the one thing I hadn’t thought of. That’s why this board is so great.

I wouldn’t do this deal on my own. You’d have to be quite a gambler to do it. I was going to present this deal to others that can sustain it.

My first thought was that I could be a partner in the deal for a very small percentage, without putting up any of my own cash. But after thinking about it, I’d rather just get some sort of fee for putting the parties together (either upfront of when property is sold) & be done with it.

As for the actual structure of the deal, I did ask him if he’d be open to the idea of getting less cash up front in exchange for higher monthly pmts. He said no. But I have a feeling that I might be able to convince him, or at least work out something more palatable like maybe 25K now, 25K in 3 yrs or whatever.

I don’t quite understand how an option would work on something like this. Are you saying to get an option on the property then when I (or whoever) would pay him his upfront cash & monthly payments that all this money would be deducted from the option price? Instead of using an option, wouldn’t you do better to give him a first mtg for whatever terms you worked out?
Wouldn’t you rather have title with a mtg. than just an option?

I just reread your post & I’m confused on this point.
Who exactly would be giving & getting an option. Are you saying I should get an option from the seller or are you saying I should give an option to my investor partners?

Tying the property up & then giving an option to investor partners sounds intriquing & I hadn’t even thought about that. But if that’s what you’re suggesting that could be a great idea & it allows me to stay in control. Actually that’s a brilliant idea. Or at least it seems to be on the surface - not sure what the pit falls would be to it though. Nonetheless it’s a great thought.

Vic

Re: Another take/Great post; kindly explain… - Posted by AnnNC

Posted by AnnNC on March 03, 2001 at 16:25:27:

"By raising the amount of monthly money, you can allow this man some cashflow and still apply it to the balance (strike price) of the option"
A little further for someone not familiar with this.

Also would you do this as a corporation with other (weak)
investors as shareholders with restrictions on to whom
they could sell shares?

What was you correct answer in above scenario?

Great post-of some possible pitfalls; and Good reminder of what Ed Garcia says–don’t rely on
appreciation, make money when you buy.
Ann

Phil, One More Question - Posted by Vic

Posted by Vic on March 04, 2001 at 24:47:27:

Phil,

When doing these types of deals, do you have any kind of a chart or guideline that you would go by?

Thanks again,
Vic

Re: Had A Very Interesting Call Today - Posted by Vic

Posted by Vic on March 03, 2001 at 22:42:16:

Phil,

I saw your post below about life estates. I wasn’t expecting to see this topic addressed & so recently too. Unfortunately, I started this post then read the rest of the board. I should’ve known better.

Anyway, I did, however find your post below very informative & it sounds like it’s coming from someone with experience.

Your idea to offer him either up front cash or monthly pmts is one that I thought about. I thought about just offering him a flat amount for the house to be paid however we could arrange it. He seems to want both though - some upfront money plus the monthly money. The idea of some sort of a cap is one I had thought about too. I’d have to work that out with the old guy, if he’s at all open to it.

If I’m reading your post right, you like structuring your deals so that the seller receives upfront cash & nothing else. Is that correct?

Can you give us the details about the house you bought for $3500 that was worth in the 70’s? How did you manage to pull this off? Also, if it’s not too much trouble can you provide the details on how you bought the other one for 12K? BTW, how did you find these people or did they find you?

You seem open to the idea of doing these life estate deals. It does seem like a good way to go if you can buy em right. If not, you can get hammered. I can only imagine what it would be like to get into a deal like this & then have to pay the guy for 20 yrs. Wouldn’t be fun. So your experience & post below definitely helps give me some guidance. Thanks!

Vic

I agree, Phil… - Posted by David Krulac

Posted by David Krulac on March 03, 2001 at 13:51:41:

the 73% is just one table. I was stating a fact. My opinion is that 73% is too high, also. That 73% represents the SAME as paying 100% of FMV for the property today, and I certainly do not advocate that investors pay 100% of FMV. The tables do represent averages and your seller could be way above average or way below average. Once I saw a statistic that on average people only live TWO years after retirement. Makes you NOT want to retire!

Re: The value of a life estate is… - Posted by Vic

Posted by Vic on March 04, 2001 at 24:50:12:

David,

Hi! I read your posts above with Phil. Where did you find the chart you were using?

It might not be the perfect chart, but at least it gives you sommme kind of an idea. I wonder how you would figure out a formula to use on something like this.

Vic

The value of being on the reia board… - Posted by HR

Posted by HR on March 04, 2001 at 08:45:15:

Vic,

Al and I were talking outside the restaurant till 2am. Luckily, my wife and daughter are visiting friends in Houston, so I didn’t have to be home at a reasonable hour. Al usually does that, unless he has someplace to go (rare). THAT’S THE VALUE of being on the board. That’s why you do it. That advice was invaluable. I’m glad you are on the board; you are doing a good job. I’ll call you this week and we can get together.

HR

One more point - Posted by Eric C

Posted by Eric C on March 03, 2001 at 23:45:18:

Hi Vic -

I thought I should clarify one more thing.

I’m not against negative amortizations at all. Well, some of them, I am.

Of course, the first concern is can you stand to make the payments. But that’s not usually a problem if there’s really a deal at stake.

What matters most is how much value am I getting for those negative amortizations?

Am I buying at a wholesale price?

Am I getting a fantastic rate of interest?

Or maybe there are other benefits that will be transferred to me because of this deal? We’re not talking about my apartment complex of stewardii? (stewardesses?) here. Are you getting some kind of tangible benefit? If not, why not?

I like these deals. I just don’t really like the one you’re proposing so far.

All of the farms and ranches I’ve purchased have been a variation of this. And many of the “keeper” single family residences as well as small commercial properties. I’ve found it works pretty well.

Yours,

Eric C

Re: Take 2 - Posted by Eric C

Posted by Eric C on March 03, 2001 at 23:14:08:

Hi Vic -

Yes. In my opinion an option would allow you to retain more control of the deal AND better contain the risks.

You would reach an agreement for the option, sign the necessary paperwork, and then assign your contract and option to your investors.

But let’s forget the technical parts for a minute.

I still don’t think that this is a deal. No matter who does it. Period.

I would pass. The risks far outweigh the potential gains. But…

I think that a properly structured option could solve some of the problems.

Here’s how:

  1. A smaller cash amount upfront for the option. I’m not talking $60K, or $25K now and $25K later. I’m talking $10K tops and more likely around $5K or $6K. What you haven’t done is find out what he need the money for. And I can almost guarantee you he doesn’t need $60K. If he truly does, than I would walk.

  2. Raise the monthly payments. A lot. Over a thousand a month to be sure. Could be two thousand or twentyfive hundred. At some point, he will think that the monthly is not such a bad deal. We’ll talk about where the money’s coming from in a minute.

  3. House price. Negotiate it well. And you haven’t done that yet either. For that much money, that quickly, I would expect to be in the 60-70 percent of FMV range. There are some cautions here.

  4. In my opinion anyone who can only come up with monthly payments is not an investor. Didn’t I say that earlier? By limiting the investors contribution to the option money (even if the option has a rolling component - monthly payments), you are at least protecting them from themselves. And your deal. Trust me - find people that have money. Real money. People that can write you a check. You’ll sleep better and they will too. Otherwise, one of these arrangements is going to blow up and you’re going to right in the middle - and that’s a dangerous place to be. You won’t like it then, and you will have seriously compromised your future at that point. Not to mention your investors.

  5. If you can find people to pony up the $600, then you can find people to pony up the rest - whatever it takes. If the deal really is a deal. If not, well then we’re just playing games here.

  6. The state and federal folks are still a concern here. Or they would be to me. Do the homework required and I think you should make sure that this man is represented by legal counsel as well.

So, what are we left with? A marginal deal at best. But it still might be a deal, if you can accomplish some things. And you may have learned something that you can use in the future.

  1. Use an option. Options are not always just a matter of upfront consideration. They can take many forms including monthly consideration.
  2. If you raise the monthly money (payment amount) enough, you can always get somebody’s attention.
  3. Keep your investors safe. Your goal is to become rich and to help your investors get rich as well. If you keep putting them in danger, you may end up getting shot and that will probably ruin your whole program.
    4.Money can always be found for a good deal. If you’re having problems raising cash IN ANY ECONOMIC CLIMATE, then you may want to take another look at your deal. Maybe it isn’t so good after all.
  4. Don’t put yourself (or anyone else) in a position to lose through incompetence. Learn to connect the dots.
  5. If I was doing this deal, we’d also be having a conversation about zero interest. I do these all the time.

More questions?

Yours,

Eric C

PS - Vic, I’m not talking to you as much as I am to others less sophisticated than you. Good luck with your deal.

Re: Another take/Great post; kindly explain… - Posted by Eric C

Posted by Eric C on March 03, 2001 at 23:34:25:

Hi Ann-

Check the post to Vic.

  1. In raising the monthly payment beyond what this man is asking for dramatically, you can get his attention and usually reduce the need for upfront consideration. By dramatically, I would mean the monthly payment would rise to $1000, $2000, or more. Whatever it is, it still is less risky than putting the $60K upfront as he requested. An extra $1000 per month, for example, would still take five years before you were as deep into this property as in the original proposal. And yes, I would expect that whatever payments I made, in whatever fashion, to be credited in full against the total purchase price (or option price) of the property. Dollar for dollar.

  2. You could do it corporately if you wished. And that might gain you some protection, or it may not. By using an option, rather than a binding purchase contract, you are already limiting your risk to the amount of the option, whatever that may be. With an option you are not obligated to continue if closing the deal is not in your best interest.

But weak investors are still weak, whether they’re in a corporation or not. They don’t really have much to offer. By using them, you become dependant upon their cash flow; that’s being naive at best. These deals usually come unglued and you will lose right along with them. Why lose control of your deal like that? Why put yourself in that kind of situation? It’s simply not necessary or prudent.

  1. The correct answer, as far as my professor friend is concerned is, you foreclose. Period. You, as the bank president don’t really have a choice. It’s your job, and it may not be pleasant, but that’s not why you were put in charge. You’re there to protect the people who invest with you, your stockholders, your depositors, your employees and associates.

Ed is completely correct. You cannot depend on appreciation; I’ve seen many “hot spots” that later were depreciating at least as fast as they appreciated in the first place.

On the other hand, if I structure my deals properly, I can count on amortization. These deals will pay down and will even one day pay off. It’s not my money that accomplished that. The money that pays the property off once belonged to someone else, but the benefit of that money is now mine alone.

Make sense?

Yours,

Eric C