If you’ve tried to get conventional financing with banks in the last year or have just listened to the news or read articles on the internet, you know that it’s become a real challenge to obtain a real estate loan. Add that challenge to the fact you need money to fix up your new property. You need stellar credit scores and at least 20% down plus closing costs and ‘your first born’. When I began real estate investing back in 1985 the interest rates were over 12%. “No money down” and “Owner Financing” were the hot topics. Now that the traditional lenders have all but closed their doors we have to go back to the drawing board on financing real estate deals.
One of the most frequent questions I have from students while mentoring recently is, “How do I buy real estate with little or none of my own money?” While this is a complex question, it’s also a simple one. First and foremost you must find a motivated seller. Real Estate without an owner that is motivated to sell will just get you a big fat, “no” when you ask if they’re interested in assisting with the financing. If you’re buying from an experienced investor they are more likely to be willing and most understand owner financing. Some of the most familiar techniques used that are considered creative, or owner financing, are listed below along with some more modern variations. I teach the Rich Dad Education Elite Training Rehabbing Properties course where we go into more details on a few of these strategies. However, here they are to help you get started now.
Fixer-upper Lease option. You are renting the property with an option to buy the property at a future date, usually 36-60 months. Part of your rent would be applied to the principle balance and when you decide to buy the property you simply obtain conventional financing and pay the seller the balance of the purchase price. You may need to get the property fixed up in order to be able to qualify for conventional financing as well. Rich Dad Education Elite Training has a three day advanced training course on this topic showing you how to master lease options as one of your buying tools.
Carry back. An owner would hold back some of the purchase price to offset the amount of money you may need for the ‘down payment’ to get a conventional loan or for the rehabbing costs. This ‘carry back’ could be paid in full in a term mutually agreed upon. At that point you would ‘refinance’ with conventional financing and pay off the carry back amount. Some of the negotiable terms would be how long to carry the note, whether or not you pay interest and how much your payment will be or if you will even have any payments at all.
Short term balloon financing. You make payments directly to the seller for an agreed upon term, then obtain financing to pay off the balance. The term ‘balloon’ means the balance is due at one time. There is no financing until you have to pay the ‘balloon’ payment. While this is similar to a lease option, you are buying the property from the start as opposed to just having an option. This gives you time to get the property into financeable condition.
Contract for deed. Commonly used when the seller does not have an existing mortgage. You get the deed to the house with the real estate used as the collateral, just like you would when using a bank except the seller is the bank. This can be combined with the balloon payment if the seller is anxious about having a mortgage for longer than 5 years. Since there’s no bank ever involved you won’t need the typical requirements for financing.
Land contract. Commonly used when the seller doesn’t have a mortgage. You make payments to the seller and at the end of the term you own the property. Similar to a contract for deed except you do not get the deed until the last payment is made.
Borrow the seller’s credit. Use them as a co-signer on the loan. This way they can get the majority of the money out, as they would with a refinance, and not have any of the worry of selling the property. You can also add to the agreement to refinance them out in a few years once your credit is better. This way there is equity in the property and you don’t have to come up with any money.
Wrap around mortgage. Leave the existing loan in place and obtain a new mortgage for the difference paying both mortgages to the seller. Many times the bank will loan you money for the fix up as well, however there has to be sufficient equity in the property for that to happen.
Borrow equity. Use equity in another property you own with a promissory note as a second for collateral.
Create a second and move positions. Create a first mortgage and ask the seller to take second position so you can obtain a first mortgage to pay them the difference. This works best if they have no mortgage on the property. The seller could also borrow enough for the repair costs and let you do the fix up.
Trading equity. 1031 exchange is a popular method used to postpone paying capital gains but also used before the 1031 was put into tax law for trading properties. Buy up or buy down. This doesn’t give you any money for the repairs but can be used to acquire the property and then use another method for the repairs.
Create a note then sell it for cash. This one also works best if there is no mortgage on the property. Most note buyers want to see 12 payments before they will buy the note.
Borrow broker’s commission. If the property is listed for sale with a real estate broker then they need for the property to sell in order to get paid. Sometimes they will let you ‘borrow’ their commission to expedite the sale. Term, interest and payments are all negotiable.
Partner. Use a relative, friend, co-worker, other investor. Find the deal and show them how you can make a profit by using their money for the down payment and repairs and then split the deal with them. Doesn’t have to be 50/50, but whatever you can negotiate. You find the deal, they supply the money.
Sweat equity. Have the owner allow you to make repairs to the property in lieu of a down payment. I have sold properties this way without ever having to do any work to them. They would receive a credit toward the purchase price for the work they do.
Equity split. Similar to sweat equity. You could do the work then sell the property and split the profit.
Hard money. This is a loan based on the asset, not the borrower’s ability to pay the loan. Usually short term, 3-18 months with high interest rates and points. Today, most require a minimum credit score because they want you to qualify for the refinance so they can get their money. The loan is based on the AFTER REPAIRED VALUE not the purchase price. They will loan you all the money you need if the total is no more than 65-70% of the after repaired value.
Private money. Similar to hard money in the respect that it’s not a bank but a third party that’s loaning you the money. This can be just like a partnership except you’re paying them a percent return instead of giving them a percentage of the deal. You also do not have to make any payments during the term but add it onto the balance of the mortgage to be paid when you refinance out in an agreed upon time frame or when you sell the property. You can borrow everything you need for the purchase, rehab, holding costs, etc.
Substitution. You can use something other than cash or real estate as your down payment and save what cash you may have for repairs. An automobile, furniture or other assets of value.
IRA. Use your retirement account to buy and sell, buy and hold or wholesale. There are guidelines for doing this and all the money has to go back into the IRA. No dipping.
Many times these options may need to be combined in order to work so you need to expand your thinking about traditional ways of financing to make them work.
As with any real estate transaction you need to consult with your attorney when structuring deals in this manner as real estate laws vary from state to state. These are just some creative ways of getting the deal and making it a win-win for you and the seller.
For more information on how to rehab your properties or to set up financing for your next rehab project, attend the Rich Dad Education Elite Training Rehabbing Properties Course.
Rich Dad Education Elite Trainer and Mentor