By: Gerald Paul - gerald(tx)
Increasing Your Owner Financed Cashoutsby:Gerald Paul
It is no secret among knowledgable investors that Owner Financing can be one of the most profitable techniques in all of real estate investing. There is always a large pool of people who would like to be homeowners but can't presently qualify for a loan because of credit blemishes, self-employment, length of time on the job, etc.
The advantages of selling to these buyers and providing financing are (1 you can sell quickly, (2 you can get full price for your property, and (3 you can do it without commissions while incurring very low closing costs. On the flip side, the disadvantage is you generally have to wait from one to three years to realize the bulk of your profits, which come on the back end of the transaction when your buyer's credit is improved so they may get their own financing and cash you out.
So it's a great strategy, IF, I repeat, IF you are cashed out and actually see that large backend check.
However, my observation is that of investors using this exit strategy, typically only about 20% are being cashed out. When I first started offering owner financing, my odds weren't much better, but over the years I have honed the technique to where I am now achieving a rate of almost 80%! So effective has this been, I have adopted it as my primary investment strategy. This article should help you pick up a few pointers which will increase your percentage of cashouts and put more money in your pocket.
The first and all so important cashout determinent is the property itself, and considering the profile of the potential buyer for that property.
In my opinion, the most common mistake a beginner will make is to acquire a property that should be a rental house and try to make it a homeowner domicile. The older, lower to blue collar neighborhoods are usually mostly rentals; those that are owner occupied are often long owned by widows or heirs. When they pass on, these houses too, will become rentals. There are few qualified homeowners looking to move into this neighborhood; no realtors holding Open Houses.
Yet, beginners typically start off with this type house using their magic 70% ARV Minus formula, then finish their rehab only to find the few buyers for the neighborhood are landlords who don't usually pay retail. Since the house won't retail, the newbie may turn to an alternate exit strategy: owner financing with a lease option, a contract for deed, or perhaps a wraparound mortgage.
But this seldom works. The problem of it inherently being a rental is still there. The property winds up being filled by a succession of tenant/buyers who will probably never be able to qualify for a loan of their own. Instead of a cashout and seeing that big backend check, the beginner often ends up being a reluctant, disgruntled landlord, not by design.
The successful practicioners of Owner Financing techniques are those who select the property from the start with the owner financing exit strategy as part of the overall investment plan. It's not an afterthought or a last-resort alternative -- it is the original, planned objective.
So which properties make the best candidates for Owner Financing? And what is the probability of having your buyer qualify to cash you out?
The magic question the investor should first ask himself is "If I were a homebuyer making a respectable income for this neighborhood and able to qualify for a loan right now, is this a house I would choose to be my homestead, to cherish and prize as the place for me and my familiy to spend our lives?"
I often get a knee-jerk response, "well, not this house for me, but there is someone for whom this would be their dream home." And this is just the point: the persons for whom this house would meet their standards are exactly the people who will probably never qualify for a home loan in their lives.
Owner Financing works better for some types of properties than others. There is a hierarchy of properties that, as you go up the ladder, the odds of your buyer ultimately qualifying for a loan and cashing you out distinctly increases.
Let's start at the bottom. War Zones. The probability is near zero! Does this one need explaining?
How about low-income properties? Gosh, there's so many hard working folks who dream of home ownership and you would love to help them out. But realistically, it's certainly less than 10%.
On to your blue-collar properties -- the ones landlords love as bread-and-butter rentals. The percentage ups a little, but with frequent intermittent employment, self-employment, and chronic credit blemishes, even with increased incomes, the odds only go up to about 20%.
If we move up to the newer starter homes or quality rehabs in nicer neighborhoods, it's probably in the 35% range. And finally, what I consider the optimum and my personal favorite at around 50% is the newer home, less than 10 yrs old, just slightly above starter size, in a nice subdivision. Here in the DFW outskirts this 1800 sf will retail for around $140k while yeilding a slight cash flow. (eat your hearts out, California.)
Above this range, you usually will have a negative cash flow, the buyer market size is smaller, and the buyers seem pickier and more problematic. I have not had as good results in the higher end.
Now these percentages are my observations in my market, based largely on the type and value of the home, with just average screening, qualfying and with no special hand-holding techniques. Bear in mind however, there are additional things you can do to up the odds even better.
(go to part two)
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