Lease Option and “Subject To” - The Investor’s 1-2 Punch - Part 3 15
Our personal investing philosophy has become: If lenders are not checking
title transfers why not just take title, as we often do with our investment properties,
in a Limited Liability Company? You must make your own choice.
Q AND A
Sellers will have concerns and questions about any “subject to” deal. You
must be ready to answer them:
Q: How do I know you will make the payments?
A: "This is our business and this is the way we buy many of our properties. We
would never jeopardize our reputation by NOT making the payments as agreed.
We don’t get paid until the loan is paid off. The pay off is our highest priority. If
we don’t keep payments current we will never get paid.
Your lender probably has an 800 number or Website where you can check
monthly to confirm that we’ve made the payment.”
After you have done a few deals show them your reference letters. Former sellers
who write glowing letters of recommendation are great ways to ease seller's
concerns.
Q: What if we decide to buy another home?
A: “If you decide to buy another home you may have to have an experienced
mortgage broker spend some time searching for a lender. We will provide you
with any documentation a lender requests to help you qualify. Canceled checks,
closing statement, whatever you need to satisfy the lender we will help provide.”
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If you learn that a seller is planning on buying another home soon, you should let
them know that it may be difficult to do within a year if their credit or debt to
income ratio is less than very good. The exception to this is when the seller has
already qualified for another house and the sale of the existing one is not a
condition of the loan closing.
Most times this will be a non-issue as most of the motivated sellers you are
dealing with will have major credit problems and low FICO scores.
Q: When will you sell the house?
A: "We can't predict exactly when that will happen, although are goal is to sell it
within 18-months or less. Remember, what we can guarantee is that the
payments will be made on time until we find a buyer who will pay off the loan.
We don’t get paid until the loan is paid off, so a vital part of our business is
reaching that goal.”
There is no way you promise a seller exactly when the loan will be paid off. Don't
let your seller make plans based on some target date when the loan will be paid
off. You just can’t know for sure when that will happen, although you hope it in will
be within 12 to 18 months.
Q: What if the person you put in the home trashes it or fails to make payments and
can’t get a new loan to buy?
A: "The families we put into homes are folks who want to OWN the home, not rent
it. In all most every case they treat it as if they already own it. Often times they
spend considerable money on upgrades. If there is damage our company will be
responsible for repairs, as indicated in our agreement."
"We can’t guarantee that the residents will pay us every month, but we DO
guarantee that we will make the mortgage payments, every month and on time.”
Q: How do we know you will do as agreed? How can we trust you?
A: "This is our business and would it be senseless for us to risk our reputation by
now living up to the letter of our agreement.
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We buy and sell real estate every week and are very competent at what we do.
We are an authorized Arizona corporation operating under the strict laws of the
state.”
“If you don’t feel our offer best fits your needs we will gracefully accept your
decision and part friends.”
Always answer questions honestly and don't make promises you can't keep.
It should be your goal to make new friends who will say positive things about you
even if you can’t strike a deal. After digesting your answers you may find that the
seller calls you a day or two later and agrees to your offer.
DEALS
There are many ways to profit from buying “subject to. Many investors who
buy "subject to" tend to offer the seller about the same amount of cash as they
would leave the closing table with if they sold through a real estate broker.
For example: If a seller sold his home through a real estate agent, he would
be obligated to pay perhaps 7% of the home’s sales price as agent’s commission.
He would also have to pay closing costs of up to 3% of the sales price.
The investor subtracts 5% to 15% from the asking price, because the
investor knows that few houses sell for full price. Sellers plan on reducing the
price after some negotiation with any buyer. So normally the seller leaves the
closing table with around 13% to 20% less than the selling price in the ordinary
sale of a home.
Asking Price in MLS $100,000
Existing Mortgage 82,000 (Taken “subject to”
)
Discounted offer (5%) $5,000
Sales Commission (7%) $7,000
Closing Costs (3%) $3,000
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By explaining the above costs to the seller the investor can justify a price
discounted by $15,000 from the asking price.
Asking Price
Minus Discount
Net Sales Price
$100,000
15,000
85,000
Less Mortgage
Cash To Seller
82,000
$ 3,000
So the investor offers the seller $85,000. With $3,000 in cash "subject to"
an $82,000 mortgage, because that is all the seller would have gotten had he sold
through a real estate broker.
Here’s another example of how to buy “subject to”:
You find a house in pre-foreclosure. The seller is willing to give you title to
his property if you stop the foreclosure and save his credit. The problem is that the
loan is not assumable, because the mortgage has a due-on-sale clause.
The first thing is to gather, from the seller, information about any loans or
liens against the property. Do your due diligence. Carefully check all that
information. Is it correct? Are there any surprises?
Get a title company or attorney to do a title search if you don’t feel
competent to do it yourself. This will tell you if there is a second or a third
mortgage, and if there are any liens or judgments against the property.
Contact any secondary lenders, lien and judgment holders and find out how
much is owed and what the monthly payments are. Will they discount the amount
owed for a lump sum pay off now?
If you are satisfied with the title search, then you may proceed with the
transaction. Get the property under contract.
Along with the Purchase Agreement, you will need to get an “Authorization
to Release Information” signed by the sellers. This is the only document that will
allow the lender to give you details about the loan.
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If the loan has already been turned over to attorneys for foreclosure, then you will
also need a release from them.
You will need to request the amount of the loan balance, plus the amount of
the monthly payment and cash needed to bring the loan current. If the lender is
willing to work with you at this point, you have half the battle won. Many lenders
will cooperate. The most important thing to them is bringing this loan current.
If everything seems manageable GET THE DEED!!! Once you have the
deed you have control of the property. Go ahead and make the back payments.
You now own the property, and the loan is current.
If the bank is not going to allow you to make the payments, then you know
at this point that they are calling the loan due (which is rare, but does happen). At
least you know! You have not spent any money on this property, except for a few
dollars on a title search, and some of your time. But most of the time, the lender
will take your back payment money. They will reinstate the loan for you, although
you must do all of this in the name of the home seller. Now you own a property
that you bought “subject-to”, with an existing loan for which you did not qualify, did
not sign for, and it has a “due-on-sale” clause.
Advantages to the seller
The seller who agrees to a “subject to” sale gets his money (if any) immediately
without having to put their house on the market, plus mortgage payments and
utility payments stop. No grass cutting or other maintenance. No potential buyers
trooping through the house at inconvenient times. No dealing with lowball offers.
No dealing with purchase offers falling through.
Very appealing for a distressed seller, yes? They get about the same
money they would have gotten IF an agent could have made the sale… and
without all the aggravation.
DETAILS, DETAILS
It’s been reported that some escrow and title companies are claiming that
"subject to" deals, where the investor did a kitchen table close and didn't get a
new title policy, are "uninsured deeds".
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These companies are requiring the investor to obtain an additional affidavit from
the original seller when the investor sells and the new buyer is applying for a new
loan that requires title insurance.
This is another reason why, if you are doing “subject to” deals, you must
find a title company or attorney who will accept what you are doing. But even
more importantly… you should always get a “Power of Attorney” from your
original seller on any creative real estate deal. This will allow you to solve most
unexpected problems.
Here’s a tax question: Suppose you bought a house "subject to" the
existing financing. Then you put the property into a land trust with your LLC as
beneficiary of the land trust.
You know your LLC can take depreciation on the property, but can you
deduct the interest on the loan payments you are making? Remember, the
mortgage is still in the name of the seller, but your LLC is making the monthly
payments.
The answer: Report the interest paid on this mortgage in the "other interest"
section of the relevant schedule of your LLC’s tax return. Do not report the
interest in the "mortgage interest" section of the schedule. If you do, you may
trigger an audit because it won't match any 1099s reported to the IRS.
We mentioned earlier that you must have an insurance agent who
understands what you are doing and will help you arrange insurance without
raising the lender’s suspicions.
Many investors make an insurance error when buying “subject to”. They
have their names added to the existing policy as an additional insured.
Caution! The existing policy is a “homeowner’s” policy.
In many cases when you buy “subject to” you will quickly sell the property
through a lease-option agreement. Practically that means you are leasing the
property to a tenant -the property has become investment property and you will
need a non-owner occupied type of insurance policy.
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What if you had a fire in the property and you filed a claim against the
homeowner type policy. Do you think the insurance company would pay
without doing a little investigating? No, they would quickly learn that the
original policy holder was no longer living in the property and they would deny
the claim! Don’t overlook this insurance trap!
FIVE STEPS
Here’s an example of how a “subject to” deal develops:
1. Seller calls you in response to your marketing. You ask questions and
prequalify on the phone. That’s when you introduce them to the idea that
you will simply take over the payments on their property. If they seem to
understand and it is acceptable to them, see them as quickly as possible.
2. Meet with them. Look at the house to see if it "qualifies". Everyone signs
the sales agreement. At this point you may not know the exact amount
owed on the loan. In the Purchase Agreement you may wish to put
"Approximately $XX, XXX" in the space where it says "Loan balances taken
subject to". Have them sign an "Authorization To Release Information"
document. You can fax that to the lender and get the balance owing on the
loan.
These days it’s common to get that information through the lender’s Internet
site. Ask the seller for his User Name and Password. If you can find details
of the loan balance through the Internet you probably don’t have to contact
the lender directly.
3. Once you have the deed you have the property tied up. That gives you
time to check and verify all the info you’ve gathered from the seller -loan
balances, liens, title, etc. and arrange any inspection you choose to do.
4. After you are satisfied that all the info is accurate and it will be a profitable
purchase you are ready to close. Record the deed with the County
Recorder and the property is yours. This document and accompanying materials are designed to provide authoritative information in regard to the subject matter covered in it. It is for illustration purposes only and presented with the understanding that the author and publisher are not engaged in rendering legal, accounting or other professional opinions. If legal advice or other expert assistance is required, the services of a competent professional should be sought. |
