Posted by d.moren on February 11, 2000 at 22:55:48:
(nt)
Simultaneous Closing on a “D” credit borrower - actual real life example - Posted by Judy Miller - American Note
Posted by Judy Miller - American Note on February 11, 2000 at 17:36:22:
As a private real estate investor myself, and the owner of one of the country’s highest volume note investors, I love when theory is demonstrated in reality. I thought it would be fun to share this present example of practicing what I preach.
We purchased a few nice-looking brick houses in small towns in Georgia that had been foreclosures a government agency needed to sell. The one I’m particularly writing about, we purchased for approximately $26,000, and we invested $4,000 into rehabbing the property. So we have $30,000 into it, and the property looks terrific and is solid.
Based on a “fixed-up” appraisal, we offered the property for sale for $59,500. For the past month and a half we’ve had a sign out front that said “for sale…owner will finance”, but the offers we’ve had have been horrendous, no money down, awful credit, terrible 1003 Uniform residential loan applications. Finally, this week we got one from a family that has $3,000 to put down, and “D” credit. Apparently the house they lived in burned down, and they need to buy another. They family plus 3 children have been put up at a motel for quite some time by the insurance company, but have to purchase something quickly since their insurance benefits for housing have run out.
And I’m tired of interest running on our $30,000 (just on this one house. Remember, we have several around there), with no burning prospects to turn the property over quickly, as my rehab partner promised when I let him talk me into this!
So what I structured was a sales price of $59,500, a down payment of the $3,000, a 1st mortgage of $36,000 @ 12% interest for 20 years, and a 2nd for $20,500. Due to the way I structured the 1st, I can liquidate that note at closing to one of our associated companies for a discount. But what I have done is create a very marketable 1st mortgage note even though these folks have horrible credit. Why? Because the amount being paid for the 1st mortgage note will translate into approximately a 60% “investment to value” (not loan to value, which in this case when totalling the 1st and 2nd is 95%). That makes the note very marketable.
Meanwhile, I’ll also get the $3,000 down payment, some of which are payable toward whatever closing costs we have. We already have title insurance from when we purchased the property a few months ago. What’s left over is profit. In addition, we’ll now hold the 2nd for $20,500, which is the majority of our profits. True, I’d rather have it all in cash now. Who wouldn’t? But we got a good price for the house, and that particular marketplace no one qualified is beating down our door to purchase the property. We recouped my initial outlay, and can move on to other properties, and do have a profit, albeit in monthly payments primarily.
Had there been a buyer with more down payment and better credit, we could have created a larger marketable 1st mortgage, and carried a much smaller 2nd, if any, and gotten terrific value out of the sale of the 1st note. But that was not what was presented to us. These are the choices rehabbers and private investors have when considering the credit of who they are getting offers from, how much down payment is being offered and what the parties can afford in monthly payments. There is no way to get 90 cents on the dollar with a 95% 1st mortgage note, with lousy credit and low down payment. It just isn’t reality-based, although we all would want it!
I applied the principles I teach and know to be the case when purchasing notes for simultaneous closes all around the country every day. It was an interesting experience to face such a situation myself this week, and live and die by the same sword.
Now I just hope they pay that 2nd!
Judy Miller, President
American Note
Re: Simultaneous Closing on a “D” credit borrower - actual real life example - Posted by Ed Garcia
Posted by Ed Garcia on February 12, 2000 at 19:27:40:
Judy:
Congratulations:
I’m happy that this deal went like you wanted it to go. However, there might be more than
one way to skin a cat.
Subprime lenders will go 60% LTV all day long.
You state in your post that, approximately a 60% “investment to value” (not loan to value,
which in this case when totaling the 1st and 2nd is 95%). That makes the note very marketable.
If that’s how you view your notes great. But that’s not the way we in lending would view it.
Your investment to value, IS loan to value. When you formulate the first with the second, you
now have a CLTV( Combined Loan -to-Value).
By your carrying back $20,500 and with the sellers $3000 down. you created 60% LTV for
your investor or the lender who is carrying the first.
Sale Price $59,500
60% LTV $36,000 for the first. The second of $20,500 brings it up to $56,500.
$56,500 of $59,500 is 95% CLTV. The reason I bring this up, is you could have done this deal
with WMC mortgage and saved a lot aggravation, and would not have to have discounted your
first. You more than likely could have gone to Associates or Beneficial finance and they would
have given you a higher LTV. I would guess at 75% LTV.
Sometimes one lenders (B) is another lenders ( A).
I won’t go into that because I’m at a disadvantage, I have not seen the deal. But I know that at
60% LTV, you can finance the dead. A (D) rated borrower would require a 60 to 65% LTV
depending on the lender. When I say that, I’m talking subprime. There are 4 national mortgage
companies that I use, but there are many others.
Judy, I know sometimes we all see a deal differently. I also realize that we will take the way of
least resistance You are comfortable with your note community, and there for will find yourself
favoring a method or type of financing that you’re familiar with.
I know Jim Piper has a particular issue with ad on value when it come to doing a rehab, because
this has been a problem he has faced in his area. Many lenders can’t justify the difference in
value in such a short period of time. Again, I hate to say it, but to me a good broker should be
able to overcome that issue.
I like when you stated,
What is true is that it is important to itemize the work that is done in repair, and have receipts for it,
as well as accounting for the time spent if the work is done yourself, in order to help justify the
increased value of the property.
That’s exactly what would have had to be done to get this loan down.
Judy, again Congratulations on your deal.
Ed Garcia
I wouldn’t be too thrilled with this deal. - Posted by Bill K. _ FL
Posted by Bill K. _ FL on February 12, 2000 at 09:23:45:
Judy,
It seems with your expenses (buying, selling,rehabing and holding)that even if you got full face value for the note you still are out of pocket and now you have your fingers crossed that a D borrower with a small down payment is gonna pay you. It wouldn’t make me sleep any easier at night. Personally, I would still be looking for a stronger buyer.
Re: Simultaneous Closing on a “D” credit borrower - actual real life example - Posted by JPiper
Posted by JPiper on February 11, 2000 at 17:55:21:
Hi Judy:
Thanks for an informative post.
I couldn?t help but notice the appraised value at more than twice what you paid for the property?..versus rehab money spent of only $4K to achieve that value. What I would be interested in is how the future note buyer may view the appraised value in light of this small rehab expenditure, and how this plays into what you would hope to receive upon sale of the note?.especially for a D credit borrower.
Thanks for any comments you may care to make on what appears to be a growing issue.
JPiper
Re: Simultaneous Closing on a “D” credit borrower - actual real life example - Posted by Bud Branstetter
Posted by Bud Branstetter on February 12, 2000 at 21:24:25:
I’m with you Ed on the general concept that you don’t have to discount if working with a subprime lender. What my experience has been is that the fees that are charged by the broker are enough to make up for the discount that has to be taken. While it may not be actual my observation is that going a note routine is about 1% higher interest that the lenders. That is a cost in higher payment that is passed on to the buyer and the cash I can get is easier and faster.
Re: Simultaneous Closing on a “D” credit borrower - actual real life example - Posted by Judy Miller - American Note
Posted by Judy Miller - American Note on February 11, 2000 at 18:19:05:
You are correct, JP, we didn’t pay a lot for the property versus its resale value. Mainly the reason is that this went to foreclosure, and there were no bidders for it at the government agency’s minimum. Then afterwards, they lowered their minimum, and we offered less even still. Because the market is apparently so slow where this house is, we were able to get it at a good deal. The house did not need a lot of work to begin with, mainly cosmetic, although some more substantive yet minor repairs.
Actually your question is terrific in that it does bring up a very good point, and that is justifying getting the increased value/sales price with only minor rehab work.
In order to overcome that issue, by my creating the 1st and expecting 60% or so in “itv”, and then SHARING THE RISK with the note investor (which is actually one of our associated companies) by virtue of taking back a very big 2nd, this can help offset the onous that is on the rehabber when they try to mark a house up a lot AND take all of their profit out off the top, and not sharing the risk.
What is true is that it is important to itemize the work that is done in repair, and have receipts for it, as well as accounting for the time spent if the work is done yourself, in order to help justify the increased value of the property. This is not necessary, but it is helpful. Yes, many note investors do not like to buy a note where the rehabber gets all their profit out on top. But they will if there is adequate justification for the increased value. In my case, we were able to buy low, rehab for not much money because the house was actually in very good condition, and we shared a lot of the risk by carrying the 2nd and waiting for our profit. A note investor feels pretty good about this because the 2nd position will protect the 1st position in order to protect the 2nd’s profits which are all tied up in the prompt payment of that 2nd. That is common sense.
Note investors recognize that, at times, a real estate investor CAN buy a property for much less than it is worth. It is only when superficial work is done and the price doubles that eyebrows get raised. The note investor wants to make sure that the plumbing, heating, electrical and infrastructure is solid, that the purchaser can afford the property, and that there is nothing being hidden. If it is a “D” credit borrower, often the purchase price understandably gets inflated by the rehabber to offset the discounted note or higher risk to carry paper on this borrower. By the rehabber sharing some of the risk by taking back a substantial 2nd to show their “confidence” in this borrower, it can help. But if the borrower is A or B, then greater confidence in assuming the risk for the note investor will be demonstrated.
I guess where most of the concern started, JP, was with these rehabbed row houses in Baltimore, Indianapolis, Philadelphia and other inner cities, and the losses note investors took there. They (we) have also taken big losses in rehabbed properties in Dallas and parts of Texas. This is when the rehabber seasoned the notes for just enough months so that it wouldn’t be considered a “simultaneous close”, and sold the notes as seasoned. Seasoned notes sell better, particularly for marginal credit borrowers. Seasoning overcomes a lot of blemishes. However, in many of these cases, and I own at least 5 foreclosures in the Dallas area as a result, the rehab work had NEVER been done, floors were missing, roofs were falling, plumbing, heating, electrical was substandard and below code, and a mere drive-by appraisal ordered by the rehabber who “TOLD” the appraiser how good the property looked inside, did not show the actual conditions of the properties. We never got the first payments on any of these “seasoned” notes. Scammed? Probably. Provable? Not likely.
So the penalty is that all of us real estate investors face the same suspicions as a result of the bad faith of a few. Hence, all of us note investors are a little more careful about acquisition values (and the reasons why they are so low), and verification of the costs and INCREASED VALUES as a result of rehabbing. We just want to see that value has been added by the rehabbing to justify the increased value of the property. In fact, on row houses now, and with marginal credit borrowers, investor properties that are to be used as rentals, etc., more and more you will see requests for “home inspections”, which show more about the plumbing, heating, roof, electrical, etc. than do just interior photos and inspection by an appraiser.
Hope this helps give some insight. There is no cookie cutter answer, as you know. It is really just common sense. The “rules” to verify expenses and value of improvements is discretionary based upon the rehabber, the borrower, the location of the property, etc. It is a tool for an investor to exercise caution only. If you have a real good buy on a property and have really brought value to it with your time and money, then we can make it fly as to increased value. It is only when it is a sham that red flags go up.
Hope this helps. Thanks, Judy Miller, President, American Note
Re: Excellent explanation. Thanks Judy. nt - Posted by Stacy (AZ)
Posted by Stacy (AZ) on February 11, 2000 at 18:46:09:
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