Variation on Lease Option - Posted by Jimmy

Posted by Bob (PA-CO) on January 25, 2008 at 08:22:44:

I can think of a significant risk that you took in this transaction: what if the rehabber/lessee had really botched the rehab job? Otherwise looks intriguing…

Variation on Lease Option - Posted by Jimmy

Posted by Jimmy on January 23, 2008 at 12:51:56:

Here’s a transaction format that is working well for me. its a lease-option, but involves rehab properties.

The Problem: I buy multiple property rehab clusters, and often desire to lighten my load. I sometimes like to sell rehab properties to other rehabbers, where I make a quick dollar.

Obstacles: 1. Rehabbers do not always have ability to buy project outright. 2. I have a mortgage covering the properties, which interferes with seller-financing.

Solution: lease property to rehabber under a triple-net lease arrangement. give him 2-year option to purchase property at negotiated price. lease rate is set at approximately where a 15 year, 8.5% note would be for the option price. my only expense after deal is in place is my own debt service on underlying mortgage.

rehabber finishes the rehab. he then has two options: (a) he can exercise his option and buy the property from me, or (b) he can find a buyer and do it that way.

in the deals I just closed, the properties were multi-family. the rehabber finished the work, leased up the units, and scraped off the rent differential for a few months while he tried to find buyers.

I was content to collect NNN rent for as long as he wanted to pay it. and HE had the pressure to find a buyer, not me. because that’s the only way he was going to get his cash out of the deal. in the end, he found a buyer and both of us got cashed out.

one last thing: the lease agreement specifically acknowledged that the rehabber wold never occupy the properties as his residence. this took the transaction outside the 2005 Texas lease option rules.

the transaction really worked well. (a) I created immediate positive cash flow for properties that would have required $30,000 in immediate capital infusion, (b) my bank very much liked the style of the transaction, © I locked in a nice profit while leaving some meat on the bones for the rehabber. (d) he did all the work, (e) he took all the risk, including the risk of not being to exercise the option within the time limit. (f) had I sold him the property on day one, I would have had short term capital gains. the lease option deal deferred the sale to the end, which put me in preferred LTCG territory.

Lessons: the next time I do this, I will have some new rules. (a) if I have to go out of pocket to cover an expense that is assigned to the option holder, there will be a 50% penalty. I had to pay his insurance bill because he got low on cash. He paid me back a few weeks later, but I still had to cover him. (b) I’ll shorten the option period to 18 months or maybe a year.