The Best Real Estate Investment Nobody Knows About! - Part 10 by Mark & Lloyd Walters 10-16
"Bonus Update"
Model Home Investing: A little know method of investing in real estate is
through the purchase and leaseback of the model homes in new housing developments.
Builders want to invest as little as possible of their own capital in any new project.
Their business plan is to finance as much as possible.
One of the ways they conserve capital is to build the model homes for the
project and then find an investor to buy one or all of them. They sell to the investor
with a contract that states that the builder will lease the model home for a certain
period of time. That period is an estimation of how long they estimate it will take them
to sell out the development. If they are still selling homes at the end of the lease period
they have the right to a month-to-month rental of the home until they are near a sellout.
Typically the lease payment is one percent of the sale price per month. If the
home were purchased for $150,000 the monthly lease payment would be $1,500.
In a recent transaction here in Arizona an investor arranged a short-term
mortgage loan at an interest rate of 10%. The payments were structured to produce a
positive monthly cash flow. Typically these deals provide the investor with a return on
his cash investment of 20% to 23% during the period the builder is leasing/renting the
model.
The model home is loaded with all available upgrades. It is professionally
decorated and landscaped. If the garage has been used as a sales office it is
reconfigured as a garage before lease/rental period is terminated. The investor ends up
with a very attractive property.
While the home is being used as a model the builder provides maintenance,
quickly and expertly makes any needed repairs and maintains the security of the
property during the lease period. The investor’s only responsibility is to cash the
monthly lease checks.
At the end of the lease period the investor can offer the property for sale or
avoid the capital gain tax by doing a 1031 exchange with another income property.
Purchase and leasebacks of model homes can be an easy and profitable real estate
investment.
Bonus Page 1
New home prices have risen since this manual was written. In our area where
prices started at $60,000 to $70,000 in new developments five years ago, the range is
now $110,000 to $120,000. BUT…where the numbers have changed the concept has
not!
The fact that real estate values tend to rise year-to-year is even more reason to
invest as soon as possible. The properties that we have purchased over the last few
years are now worth 20% to 60% more than our purchase prices.
As these words are written mortgage money is cheap and plentiful. We have a
loan broker that can arrange investor loans that require only a 5% down payment. It is
an 80/15 type loan with a blended interest rate of 7%. That means there is an 80% first
loan, a 15% second loan and then the 5% down payment.
Using that loan an investor can buy nearly new homes with often a break-even
cash flow for the first year. Yearly rent increases produce positive monthly cash flow.
All the while the property is increasing in value…with almost zero maintenance
required!
You can often find the same kind of loans if you will talk to an experienced loan
broker. It’s never been easier to get started in real estate investing at every level.
Bonus Page
2
“More Opportunity”
After purchasing one of the 2 story homes to live in, I found another deal in the
same growing town. Here's how I found the money for that deal.
I found an opportunity to purchase a brand new house on a quarter acre lot. The
house was one door down from what would be a beautiful 40-acre park. The park
would have many amenities such as 4 baseball fields, 3 soccer fields, 4 volleyball
quarts, 3-basketball quarts etc. A great place that was sure to go up in value seeing
how this was a newly established growing area.
The floor plan was 1723 sq. ft. which was the smallest plan being offered. That's
an opportunity in itself considering the larger more expensive homes will over time
pull the value of this home up. That's called "progression" and it's a valuable tool to
watch for.
Great house! Great location! One problem, or should I say one challenge. How
do I get the money to purchase this new house? There are many creative ways to
structure a deal. We've all heard about them but have rarely gone any further than that.
The reason is that we must deal with people we don't know in situations that make us
uncomfortable. But, there are ways to find money and remain comfortable in the
process.
Here's what I did. I was living in the 2-story house that had a FHA loan on it that
I'd purchased about a year earlier. Using a FHA loan while putting less than 20% down
payment, you have to pay mortgage insurance. That's insurance to protect the lender in
case of default. Most traditional loans will charge this. The advantage with a FHA loan
is they require that a certain portion of your mortgage insurance be paid up front at the
time you establish the loan. In most cases that prepayment is added to the amount of
the loan so it's not coming out of your pocket when establishing the loan.
The reason I mention this is because those prepaid funds are refundable to you if
you sell or refinance your house within about 3 years of establishing your FHA loan.
After 3 years that prepayment is pretty much used up and the opportunity to regain that
money in the form of a refund is gone.
Bonus Page
3
That being said, rates were down from the time I established the loan a year
prior, so I refinanced into a conventional loan. The FHA refunded me nearly $2,000. I
was also refunded about $300 that had been collected by the company servicing my
loan payments. This money is considered "impounds" and it represents money needed
for fire insurance and property taxes. It accrues so that proper payments can be made
to stay current.
So, there is a source for money, the FHA mortgage insurance refund and the
impound money refund. Those two amounts in my situation added up to about $2,300.
It should be known that because the FHA is a governmental program, it could take
many months to get your prepaid mortgage insurance refund.
The least amount of up front cost to refinance is usually limited to the appraisal
fee which can be as much as $350.00 and maybe $50 for other "administrative" fees.
The rest of the costs can usually be rolled into the new loan. Check with your local
mortgage broker for exact figures. Obviously you don't want to get into a loan that
doesn't make good monetary sense just to get these refunds.
Here's another benefit of refinancing. Mortgages are paid in "arrears". That
means your payment is for the month that just passed. That's the opposite of when one
rents where they are paying for the upcoming month. When you first get a mortgage
you don't begin making monthly payments until the first month has passed.
You should schedule the close of your refinance for the last day of the month.
That way you avoid having to pay any prepaid interest and you don't have to make a
mortgage payment until the following month. Now you're able to keep one month's
mortgage payment, which can add up to a lot! In my case I saved about $832.00.
Just before I was to move out of my existing house, I turned around and rented it
for $1,050 a month. I received, at the time the rental contract was signed, a security
deposit of $1,000. I could have demanded payment of the rent then as well, but the
renters were short on cash. I allowed them to pay the rent the day they were to move
in. (As mentioned above, my mortgage payment is $832 so my monthly positive cash
flow is around $200)
Bonus Page 4
Because this house was being built from scratch it took about six months to
complete. Builders will often allow you to make the down payment in installments
over that 6 months to make the deal go together. That's great because then you don't
have to have all the money up front. You can make monthly deposits toward the final
down payment amount necessary. You should also be able to receive your FHA refund
within that amount of time.
So, let's recap:
$2,000 FHA refund
$300 impounds refund
$832 saved on mortgage payment
$1,000 security deposit
Total: $4,132 (+ $1,050 if I wanted rent & security deposit paid at same time)
The numbers in your deal will undoubtedly be different. But, here's a way of
taking some simple and achievable efforts coupled with time to make your next deal
go together! Is there any reason that you can't do this once every year or two? After
doing this kind of deal once, it can become familiar and routine. With this knowledge
you can target houses where these numbers will work. Talk about a winning formula!
That's a great plan to acquire property relatively painlessly. Here's an idea that
you could think about using down the road. Let's say you've acquired 10 properties.
For the sake of explanation, let's say you purchased these properties for $100,000 each.
Let's assume these properties over the years have experienced 5% appreciation. At the
end of the tenth year, refinance the house you purchased first. Considering the above
numbers, it would be worth $150,000. Pull out $50,000. I'm not giving tax advice here
but many would say those would be tax free dollars. The next year do the same thing
to the second house you purchased. Repeat indefinitely. Wow!
Or, at the end of 10 years sell a couple houses you no longer really like and pay
off your favorite house so that it's free and clear! Talk about positive cash flow!
These are just theories and concepts but they are good models for your future
real estate growth.
Bonus Page 5
On the following two pages you'll notice price sheets for the development
we've discussed in this book. Model 3 is the one-story and Model 5 is the two-
story. These are base prices being quoted and they don't include the upgrades.
The first price sheet is dated 8/3/99 and the second is dated 10/12/01.
In just over 24 months the one-story's base price went up $15,000 where
the two-story went up $15,500.
In reality, the two-story in the beginning, after upgrades and loan costs
totaled a price around $101,000. The resale price just over 24 months later is in
the mid $120,000's. So the actual increase is well over $20,000. Not bad for a
house that's easy to rent and maintain!
Not all housing projects will have a building process that lasts as long as
this one. There will be four phases in this development totaling about 2,000
homes. That's more than most. You could invest in homes in a development that
has far less volume than this example. I chose this one because the houses were
good quality and looked appealing bust most importantly because the numbers
worked! There are many developers in this area building homes all around this
subdivision so the number of homes being built in this subdivision isn't a
prerequisite. When you find a growth area you will see plenty of developers
jumping on the bandwagon. I consider that multiple confirmation of a growing,
profitable area.
That being said, once a development is built out, then re-sale prices will
dictate market value. With the original purchase prices being so low, as long as
these homes are still being built the prices will be held down somewhat. Once
they are finished building the prices will no longer have that anchor and values
will be freer to escalate. That's a good thing! So if you're looking at homes that
will be in smaller volume developments, you will actually be in a better scenario
than this one because there will be less supply. That of course is assuming
there's a demand, which is the only reason you would be interested in the first
place.
These are fun numbers that are not exclusive to this example so go out
there and research areas where you can duplicate this several times!
Bonus Page 6
Hancock Communities 8/03/99
Bonus Page 7
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