I know a Fireman who once told me that it’s not safe to enter a burning building without first knowing where all the exits are. It seems like common sense to me. Does it to you?
The same thinking applies to the Real Estate Business. Before you buy any property, you must first decide on your exit strategy. In fact you should decide on your exit strategy before you make your offer. It should drive your offer.
In other words, when you know what you will do with the property it will help you determine the offer(s) you should make, the financing source (if any) you should use.
Here’s are a few examples of what I mean.
If you know your exit is to wholesale the house you are considering, then you would make an offer below what you might otherwise be willing to pay so there’s room for your wholesale profit. You need to build in the proper margin.
If you decide you are going to retail the house then you might be willing to pay a little more for it than if you were going to wholesale it. This could be the case when the house is in a super neighborhood, has a great layout, and is very saleable. You might be willing to pay a little more if you have to, to get the deal, because the house is so sweet.
This exit strategy would also require short term financing. I say short term because you’ll be in and out of the deal in less than 6 months. Good sources for this type of financing would be Hard Money, a Partner who wants to split the profit, a Private Lender who’s OK with a short term loan, Your Credit, Your Home Equity, or Your Own Cash. Remember this about your credit, home equity and cash. Never tie it up for more than 6 months. If you do, you limit your ability to move quickly. You reduce your liquidity.
Here’s another consideration when you choose to retail the house. IT MUST BE IN A NEIGHBORHOOD WHERE "A" CREDIT BUYERS ARE BUYING! If it’s in a neighborhood where "A" buyers are not buying, retailing is not a viable exit strategy. The reason is it’s the "A" buyer that’s got "A" credit and can get the new, high loan-to-value financing that will cash you out. That’s the essence of retailing… cashing out. If the house is in a neighborhood where "A" buyers are not buying, then you need to choose another exit strategy. How will you know?? Ask a Realtor. And another clue is if there’s an absolute absence of Real Estate Agency signs in front yards, but there are F.S.B.O. signs. Realtors generally don’t list houses that aren’t going to sell to "A" buyers because in order for them to get paid their commission the buyer needs to cash the seller out.
Or suppose your exit strategy is to sell it on lease option. This will require you to line up long term financing going in. If the seller is willing to "be the bank" and hold a note, and it’s obviously very desirable that they do, then you might be willing to pay a little more for the house. In fact, if the seller is willing to carry back zero interest financing, you might be willing to pay a good bit more for the property. This is my favorite way to buy – bar none. As an aside… a great ad to attract this type of seller goes something like this. "I’ll pay your price if you’ll sell on my terms." It works! Try it.
If your exit strategy is not to exit, but rather to rent the house and hold it long term, that’s fine too. But here are a couple of considerations. One, your financing needs to be long term. My humble opinion is that Private Lenders with a long term time horizon are far better than going to the bank. Although I will admit with the rates where they are today, it makes arguing against the banks a bit more challenging. No matter what the rates are, a private lender is always better for limiting liability, flexibility of terms and helping people in general. Did you know that when you borrow a private lenders money, you are helping that person. You are providing them with an investment vehicle that is probably not available to them otherwise and presumably at a rate higher than they can earn anywhere else. It’s true. And if you’re like me and make helping people a priority in life, then there’s one more reason to use private lenders.
In this scenario, no balloon payment is most desirable. Balloon payments seem OK going in, but when they pop and you’re forced to refinance or sell, it ad’s stress to your life that you really don’t need. So go for no balloon or a LONG term balloon (like 7 – 15 years) if at all.
And one last thing about renting property. Decide to use a professional property manager from the "get go". Managing them yourself is the fastest way to being miserable and having no life, that I know, and I do know. Oh, and if you think a property manager will cost you money, then you don’t get it, and need to re-look at the benefits. If you think that a property manager will cost you money, then you probably also think an accountant will cost you money. DUH!! :^)
So the moral of this story is… know your exit strategy before you even make the offer, and be sure it’s a viable one. Then line up the financing that the exit strategy requires, then DO THE DEAL!!
Cameron Dunlap is the nation’s leading expert in flipping Bank Owned Foreclosure Properties (aka REO’s) in today’s market. Since 1993 Cam has mastered the craft of turning foreclosure properties into immediate paychecks and he’ll teach you his simple step-by-step system so you too, can get in the business and grab your share of today’s once-in-a-lifetime foreclosure opportunity. Cameron Dunlap is a regular guest speaker at CT REIA. Go here for the current list of upcoming real estate investing seminars in Connecticut.
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