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Options, Lease-Options, And Seller Financing Agreements, Part 3

Feb 23, 2008
Technique #3, Sales Agreement:

When I first started out in the Real Estate Investment game I bought a lot of properties on Sales Agreements - called Land Contracts in some states. A Sales Agreement is a contract of sale between the buyer and the seller wherein the buyer agrees to pay a certain price for the property, and the seller provides financing for a portion of that price, agreeing to accept monthly payments amortized over a certain period of time and at a certain rate of interest. In my case, when I drew up the agreements the seller was providing financing for 100% of the purchase price, and often no interest was being charged. There were no payments for the first 6 months, and from the seventh month on payments were amortized for 30 years, with a balloon payment 12 to 18 months into the contract. During the first 6 months I either planned on selling the property, and what I owed the seller would be deducted from the proceeds of sale with me keeping the spread; or, if I was keeping the property as an income producer, I would renovate it and put a tenant inside to provide income. Then, from the seventh month on, I would season the contract by building up a history of timely payments to the seller and refinance the property with a traditional lender 12 to 18 months into the contract.

Still, the times when I planned on keeping the property for the long term were rare. Most of the time I was buying it for quick resale, and I had to incorporate sales agreements into my creative financing arsenal because I didn't have enough of a bankroll to buy multiple properties with cash and renovate them at the same time. Nor was it cost effective to use conventional financing for the purchases due to the constraints of low loan to value ratios - the percentage of the purchase price banks were willing to lend - and the prepayment penalties the lenders assessed when the loans were paid off in the short term. Moreover, since the majority of properties I was buying were in need of renovations, I needed a way to buy the properties with 100% financing so I could use my available capital to renovate them.

You would think that sellers going into deals like these would be suspicious of the contracts I provided and would insist on having their attorneys draw up contracts specifically designed to protect their interests. But I never had a single instance where a seller required that their attorney prepare the contract. On a few instances, they had their attorneys review my contracts. But in each case, if the attorney suggested an amendment to the contract, it was trivial. I used a simple one page, single spaced sales agreement protecting the seller in the event of default. However, it also protected my interests as the buyer, with one very important clause that I was never willing to remove: the right for me to assign the contract and substitute the assignee in my place as the party responsible for living up to the terms and conditions of the agreement.

This was critical because in some instances I wholesaled the properties right away to other investors in return for hefty assignment fees. I needed to be protected in the event that the assignees defaulted on the agreements. With traditional assignment clauses, the assignors are still on the hook in the event that the assignees default. I inserted language into my assignment clauses substituting the assignees in my place in the event of default, a crucial difference.

Now the inevitable question arises: Why would a seller agree to all of this? The answer is the same as when this question was posed in the two earlier articles I wrote in this series pertaining to Options and Lease-options: In most instances, the properties were in poor condition and the sellers were unable to sell them either through Realtors® or by themselves. I was inserting myself into the equation not as a carpet bagger looking to take advantage of their misfortunes, but as the answer to their problems. I never made any bones about the fact that I intended to make money on the deals, but they didn't care so long as I solved their problems. To that end, they were willing to do what I wanted them to do so long as they perceived it as furthering their goals.

In instances where I didn't wholesale the properties right away, I renovated them in order to sell them later at a retail price. At the beginning I paid for the renovations myself. As time progressed and my knowledge of real estate investing became more sophisticated, I recruited Hard Money Lenders to fund the renovations. In the instances where Hard Money Lenders were involved, the amounts the sellers owed on their first mortgages were relatively low. The sellers agreed to allow the Hard Money Lenders to put second mortgages on the properties to cover the amounts borrowed for renovations, so that the cumulative amounts of both the first and second mortgages were a low enough percentage of the properties' value for the lenders to feel comfortable in the event of loan default. I then went on to renovate the properties and resell them, at which point both the sellers and lenders got paid what they were owed, and I kept the rest.

I've used Sales Agreements on nice properties as well (it just happens that I've used them on a lot more ugly ones). In fact, I bought a house on a Sales Agreement in 1999 for $190,000 that I only had to put $10 down on. I made payments to the seller for a year, and then refinanced 100% of the outstanding balance, with the seller paying all of the closing costs. I lived in the house for another 7 years, put maybe $10,000 into upgrades, and sold it in December of 2007 for my asking price of $291,000. You do the math. That's a decent spread in anyone's book.

When structured right, sales agreements are a great way to buy properties with little or no money down. If you structure them the way I've described, you can even defer the payments long enough to sell the properties and incorporate Hard Money into the deals to make them truly $0 out of pocket. I began writing this series of articles in answer to those people with little money, poor credit, or both, who were constantly asking me how to get into Real Estate Investing. Now you know: Options, Lease-options and Sales Agreements. Now go out and put some deals together! And if you need some one-on-one coaching along the way to insure your success, visit me at my Web site and click the "Success Coaching" link on the navigation bar. Good luck!
About the Author
Frank Lawson is the Editor of The Profit Blog, the Online Education Resource for Real Estate Investors and Hard Money Lenders. With 10 plus years of experience in Real Estate Investing and Hard Money Lending, Frank has an expert perspective on today's volatile real estate market.
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