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How to Do Another Zero Down Deal
Joe: Hey, it’s Joe Crump and welcome to the new Joe Crump Blog video series. I’ve got a bunch of questions here that I’m going to answer and we’ll send them out over the next few months here. There’s probably about thirty different videos that I’m going to create here in the next couple of days.
Joe: I’m going to talk about different things. First, I want to talk about how to structure different types of deals, because I’ve had questions specific to that. I’m going to talk about automation, I’m going to break down a bunch of questions on that. I’ve got questions on outsourcing, how to find people to do the work for you. And I’ve got some questions on talking to sellers and how to put the deals together, how to make the offers and how to make them feel that you’re competent.
Joe: This first one, though, is how to structure a deal question. Here’s what the question is. “The seller wants $125,000 for the property. There’s $1,100 is the market rent for that property. He owes the $105,000 on it with a PITI payment of $875 – principal, interest, taxes and insurance of $875. The house is in good condition. It could use some sprucing up. It’s in an area of other houses that are priced, you know, about the same, at the same price range. What could I offer a guy on this house?
Joe: Now, I teach the zero down hierarchy structure hierarchy. And what we always do when we look at the hierarchy, we always start at the top of the hierarchy because if you’re buying a property you want to have the most control of a property. So we start at the top of the hierarchy. And in this case I would be buying a subject to. Buying a subject to gives you the most control over a property because they’re deeding the property to you other than buying it for cash. So they’re deeding the property to you and you’re going to start making payments on the existing mortgage. So, the seller has a mortgage on the property. They’re not, we’re not qualifying for that loan, we’re not putting any down payment on this property. We’re just going to make payments on it.
Joe: So if the seller wants $125,000 for it, he owed $105,000 the first thing we’d want to offer is a subject to. “Would you just take $105,000 for this property and let us take over your payments and we’ll put a tenant in it and take care of the property?” Our exit strategy on something like that would be we’d turn around and sell it, maybe for $135,000, a little over market value. We’d ask for $5,000 or $10,000 down from a lease option buyer. We’d hold on to the underlying deed and we’d make the payments on the property, and the payments are $875 PITI. We’d also probably pay a property manager and that’s going to cost us about [$110 a month] to pay a property manager. So that would put us up at $985 so that gives us a little over $100 a month of positive cash flow on a property like this which is okay.
Joe: I’d rather see $200 or $300, but you also get some other benefits from a property like this. You get, you’re just walking into $20,000 of equity if they let you have it and just take it over. And that’s nice. And they may not get that equity anyway, because if they have to sell it with a real estate agent, they’re going to pay about 10% of the cost of the property, or the sale price of the property in cost. So they would end up spending about $12,000, $13,000 in cost after all is said and done in closing costs, you know, negotiation, down payment, repairs, those types of things, and it would take them quite a bit longer to get it sold. And you know, so they might get a little bit of money on it because they do have some equity. So it might make sense for them to do a realtor sale. But if not, you could then take it over. Make sure that the payments are on time, try to get them to pay at least the next month payment, and preferable two or three payments in the future, which is something that we’ve done often.
Joe: So now you have this property, turn around and sell it on a lease option, you get $5,000 down, you sell it for $135,000. Now you’re owed $130,000 if they exercise the option. So if they do exercise the option you’re going to make, $20,000, $25,000 when they exercise the option. In the meantime, they’re going to be renting it from you for $1,100 a month. You’re going to be making about $100 a month of income from that property, plus you’re going to get the tax depreciation on the property, which on something like this will be $3,000 or $4,000 a year which you can reduce your capital, you can reduce the income tax that you pay if it’s, if you’re an active investor, by about that much.
Joe: So if you’re in a 25% tax bracket, that means you save about $1,000 a year on that. And you’re probably also going to get another $100, $150 a month, so maybe another $1,500, $1,800 a year in buy-down on the note every month. It’s likely that in the next three years that this lease option buyer is going to not exercise the option. Less than 30% of people that buy on lease option will actually exercise the option, but, so it’s unlikely that they’ll buy it. If they do, you make a nice chunk of money. If they don’t, you still make money for, as a long term investment, you know. We don’t have the number on how many years are left on the loan on this one. Maybe it’s got twenty years left on it. If that’s the case, it wouldn’t be paid off in twenty years unless you increase the amount that you’re paying every month. So as the rents go up over the next five or ten years, go up $100, $200, $300, you either take the positive cash flow or you put it toward the principal and pay down that principal every month and do it that way.
Joe: If they don’t want to do the subject to deal, you could also do this as a land contract. Now, or we could do it as a multi-mortgage which is, you could do, take over the first as a subject to and then you could put a second mortgage on there for the balance that they want. If they wanted $125,000 and you’ve got a $105,000 mortgage, you could put a $20,000 second on there with you making the payments to the seller. You’re, it’s you’re note to you. And you’d be making the payments. You just have to make sure that you have enough cash flow to make it make sense. Because if you pay another $100 a month towards cash flow, it means you’re break even on this thing, which still might make sense because you’ve got zero down on this property. You just have to keep it for the long term.
Joe: And what I would suggest, if you do this, and you sell it on a lease option, and you get the $5,000 lease option fee, that you take that $5,000, you put it into an escrow account, save it for when this property goes vacant. Because when it goes vacant, you may have to do so some work on it to get it cleaned up again, to get it rented again. Because you want to keep it in good shape because you’re probably going to keep it for the long term. So, you keep that five grand and then you’ll use it in a year or two, or three years when that tenant moves out, if they move out. If they don’t move out, great.
Joe: Now, when you get two, three, four or five, ten of these properties like this, you don’t need to keep $5,000 in there for every property. You just have to figure a 10% vacancy rate. I typically have 3%, 4% vacancy rate on my properties, but I’ve also, you know, when 2007 came around and everything crashed, a lot of people lost their jobs. So a lot of my tenants couldn’t pay any longer and we had to evict them and we had to get new people. So at one point my vacancy rate on my properties went up to 20% which got pretty painful, especially on these subject to’s where you have to make these payments. So, I of course had the money set aside so that I could make those payments without too much pain, although making those payments is painful when you have to do it like that. So that’s the other option.
Joe: The other, the third option, is that you could do a land contract on this deal. A land contract doesn’t transfer the deed of the property. All it does is, is an agreement between the buyer and the seller to buy the property and it’s kind of like buying a car. The bank holds the title on a car until you pay off the contract that you have on the car and then once you pay that off then the bank gives you the title of the car. That’s the way it works on a land contract. And you can do that, you can make it assignable so you could sell to somebody else on a land contract.
Joe: Now, if you buy it subject to you can sell it, you know, on a multi-mortgage, you can sell it on a land contract, you can sell it subject to – or, I’m sorry – lease option. You could sell it for cash. You know, every time you go down a step in the hierarchy you have fewer ways to get rid of your property. You want to have as many exit strategies as possible. If you go land contract you can sell it on an assignable land contract, you can sell it on lease option, you can sell it on cash. If you buy it on a lease option, which is not a safe way to buy, then you could sell it on a lease option if it’s assignable, or you could sell it for cash, or you could sell it for a land contract.
Joe: So, you see, as you drop down the hierarchy of zero down structures your options get fewer and fewer on your exit strategy so you want to really be careful about how your structure your deal. Don’t take sandwich leases because it makes you responsible for them and you could actually be sued and they could get a judgment against you. Whereas with a subject to, that doesn’t happen. On a land contract they could sue you for that if you didn’t make your payments. So you want to make sure you’re in a position of the most strength with the least liability with the least money in it, never taking out a loan, never putting any down payments down, actually making cash at closing, not just down payment, but actually getting cash at closing and that’s how we would try to structure this.
Joe: Now the other option here is we could just take this property and we can get this guy his whole $125,000, but we do it with an assignable lease option. I call this the for rent method and basically what we’ll do is take this property with a lease option memo, one-page memo that we’ve got, assign it, that makes us a principal in the transaction, so it makes it legal for someone without a license to sell a property that is not technically yours, but you have a principal interest in the property. So you go out and you find a buyer for that property. You raise the price to $130,000, you take $5,000 down. You give them, you give the seller, the new buyer, they still owe $125,000 which is what you promised them, plus they’re paying the $1,100 a month on the rent. And you’re in the deal, you’re out of the deal, you’re done, now it’s in their hands and if it goes vacant again, you can get back involved again and you can sell it for them again a year from now, two years from now, three years from now until they finally have enough equity in the property or until they decide that they want to liquidate that property on the MLS and pay all those fees, which if they’re smart, they’ll hold on to that property.
Joe: It makes a lot of sense to keep a property like this for the long term and if you already have mortgages on properties and they make sense and they cash flow, you should keep those properties. If you come across people that have properties like this then you want to keep those properties for yourself. Or, if you just want to make, you know, cash, lumps of cash, maybe five grand here and there, you know, you can do this two, three, four, five times a month. You’ve got a nice looking income. Just two times a month and you’ve got $100,000 income, or about $100,000 income that you’re working, $120,000. So that’s a very attractive type of deal to do to have a business, and it’s not difficult to do.
Joe: When you get good at this, it’s going to take you maybe eight to ten hours per deal, if you’re doing a fair amount of the work. If you outsource some of it, you’ll have very little time into it. And I’m going to talk about outsourcing later on in this series.
Joe: All right. I guess this is enough for this for this particular deal. We’ll go on to another deal in a future video. All right – thanks now.