May 1984
Vol 6 No 8

GET READY FOR MANUFACTURED MONEY – IT^'S ON ITS WAY. . .

What is money anyhow? Oh sure, it^'s that green stuff we give for groceries. But isn't it more than that? Aren't Credit Cards money too? Checks? Notes? Where does our definition stop? Couldn^'t we agree that money is anything that we can use to transfer stored value from one party to another? For example, suppose you were a painter willing to exchange a paint job on a house for a payment on a car. Without money, you^'d have to find a car dealer who needed a paint job. On the other hand, by accepting money for your work that the car dealer would accept, you can use your labor to accomplish what you want to do.

Practically speaking then, the key is to get paid in a currency (any acceptable form of money) that you can use to translate your labor into what you need. And if you happen to be a person who uses assets or inventory in commerce, the currency you accept still needs to meet that criteria doesn't it? Equally important is that the timing of your receipt of payment in currency and subsequent conveyance to someone else be such that the VALUE of what you get equals the value of what you gave up. Otherwise you wouldn't be receiving an equitable exchange of labor/capital/materials for what you needed later on.

When transactions use DOLLARS as a store of value and medium of exchange it is thus critical that the dollars not be depreciated in value between time of receipt and of payment. Inflation simply means that your dollars are losing value relative to what they can buy over a period of time, robbing the holder of value for services/capital/goods he has given up to get them. Similarly, when you accept ANYTHING for payment which inflation can depreciate, you^'re vulnerable. This will especially be true over the rest of the 80^'s!

Look at what's already happening. Argentina owes our banks more than they can ever hope to pay. In April they announced they couldn't even pay interest on the interest. American banks had been carrying unpaid-but-accrued interest on their books as an ASSET. Argentinian default would have been disastrous for bank earnings statements and balance sheets, so an international ^“laundering” scheme was hatched whereby Mexico, Columbia, Brazil and Venezuela used US funds to lend to Argentina so they could pay their interest. That money was manufactured out of whole cloth. It didn't represent the labor/capital/materials of anyone. Not only doesn^'t it represent VALUE; it reduces the value of everyone^'s money whether in savings accounts, money market funds, receivables, mortgages, or cash stored in a mattress. This is only the tip of the iceberg. Who will lend the money when these countries also default on their own payments? The American tax payer, who else!

Foreign loans are only a part of the problem. Raging deficits with interest that compounds hourly pose the biggest threat to all of us. It's clear that we can't produce enough goods and services to pay them. If the government continues to borrow to pay its bills it will be digging its own grave (and ours) with a golden shovel. There^'s only so much credit available. As consumers, businessmen, real estate developers vie with the US Treasury for loans, interest rates must continue to rise. We^'ve seen this happening during the past few weeks. In post-election 1985, regardless who wins, we^'ll surely see higher taxes and an erosion in the benefits of real estate ownership. Let^'s see, we can^'t borrow, tax or produce enough to repay our deficits. That leaves PLUNDER and INFLATION – don^'t they both mean the same thing? Regardless whether we get new currency or not, new taxes or new credit, the value of our present labor/capital/materials will be less in the future! This month I want to delve into the ART of EXCHANGING – the use of non-monetary currencies to conduct commerce in ways which will offset the effects of credit shortages and inflation.

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YOU TOO CAN USE DO-IT-YOURSELF DOLLARS!

How? By harking back to the ways that people conducted trade thousands of years prior to the invention of money. Let^'s face it, isn^'t money just a promise to convey a stated value to the bearer? Originally it took the form of warehouse receipts representing goods in storage. The goods themselves could have been exchanged, but they might have been too bulky or perishable – or valuable. Receipts for gold and silver were what dollars were as originally envisioned. So why not eliminate the middle-man – the Federal Reserve – and revert back to the tried and true methods of exchanges? Here^'s how:

First, you^'ve got to establish value for your goods in an exchange. Not only the value for YOU, but the value for anyone who might obtain them. With personal property, one person might look at something completely differently than another. For instance, my wife likes diamonds. I like sports cars. Suppose I had a chance to exchange a diamond for a sports car? I^'d do it in a flash. My wife wouldn't! Each of us might place a completely different value on the transaction because of our individual preferences regardless of the relative merits or values of the articles to be exchanged. The same things holds true of real estate too. In order to determine a value, the benefits of ownership must be known.

What benefits might that include? Appreciation to keep up with inflation, tax shelter under current and future tax laws, liquidity, income, loan amortization, leverage and things a ^“user^“ might want such as a desirable location, pride of ownership and market appeal. And to some extent, with each of these there could be offsetting attributes too such as intensive management, risk, high maintenance, short term finance, a limited market or a poor location, zero or even negative cash-flow. The art of making an exchange lies in being able to identify the specific positive and negative attributes of property and to match them with another^'s needs. Being able to accomplish this will be essential should mortgage loans dry up.

By using property as your currency, you'll still be able to buy and to sell in the exchange market place. But where? How? Warren Harding, 46 Washington Sq, Sarasota, FL 33577 is the founder of The Academy Network. That's an exchange market at which people from all over the United States gather 5 times a year to exchange property. It's open to non-brokers as well as Brokers. For licensed professionals, the Florida Real Estate Exchangors comprises the largest Exchange Market in the known world. People in over 35 states have joined it to get access to other exchangeable properties. For information, contact Ken Turner, P.O. Box 10133, Sarasota, FL 33578. In many areas, local exchange groups have been formed. Their addresses can be found by contacting Creative Real Estate Magazine, Box 2446, Leucadia, CA, 92024, or Who^'s Who in Creative Real Estate which lists qualified Exchangors. Same address.

 

DEVELOPING YOUR OWN MORTGAGE-BACKED SECURITIES

Once upon a time a fellow needed to sell his house in a slow market. He needed to relocate to my area from about 85 miles away because of a business he^'d bought. Here^'s what I did. I wrote him my I.O.U. (note) and secured it with his house (mortgage or trust deed). Then I told him to see if he couldn't buy a replacement house using my note. In the event he did, only then would we close the transaction wherein I would buy his house with my note. Eventually he found a vacant house in my town whose owner had transferred to Houston. The payments on the empty house were about $365 per month. My note called for no payments nor for any interest. It was due and payable only upon the sale of the out-of-town house. The Houston owner accepted my I.O.U. with NO PAYMENTS nor INTEREST because the new occupant would be making the payments on the existing 1st mortgage. That had the effect of putting $365/mo into the former owner^'s pockets. He^'d receive all his cash at a later date.

Let's see why this worked. The out-of-town fellow needed a house but he wasn^'t able to buy one without cash. I didn^'t need an out-of-town house but I could see the gain in taking title to it if I didn^'t have to make any payments or pay any interest. The Houston owner preserved his equity even though he wouldn't receive anything for several years. Each of us was making the deal for different reasons. That^'s why it worked. The key was my creating my I.O.U. which effectively transferred value from one city to another when U.S. currency wasn't available. Had the out-of-towner been unable to buy a replacement house, we^'d just have called the whole thing off. He ran no risk at all. That^'s a form of Exchange.

In prior letters I've gone into some detail to show the profit in avoiding any interest at all. Jim Harris, at the MAIN EVENT brought up the fact that most of us feel GUILTY about charging interest on a personal level. There have been several tax cases on the subject of zero rate loans lately. In Dickman v. Commissioner of Internal Revenue it was determined that GIFT TAXES would be due on money the lender COULD HAVE EARNED. But remember that the lender and his wife could ^“gift^“ $20,000 in interest tax free in any single year. That Supreme Court decision follows a long line of appellate court decisions going all the way back to 1961. The last one: W.L.Hardee vs U.S. once again deprived the IRS of the right to tax the recipient of zero interest loans. The court decided that if the value of the interest were IMPUTED to one party in the transaction, then the other party could take a corresponding deduction in the same amount. We can expect to see these loans used as a form of Executive compensation at the corporate level more and more. How can we use them?

Suppose you formed a corporation or used an existing one to issue Corporate Notes at Zero interest rates. These notes would be secured only by your corporate assets in the aggregate, not individually. Several years ago we bought a house using such a note. The corporation itself owned real estate assets and discounted mortgages which were the security for the Corporate Note, but title to none of the assets was impaired at all! Nor was there any personal liability on the Note. I hear a lot of conversation about putting ^“substitution of collateral^“ clauses into Notes. This requires several more steps in the negotiation process that the use of Corporate notes avoids, since the underlying assets can be changed at will so long as the payments are maintained current. The Corporate shell effectively hypothecates your existing notes which you may have bought at discount or created to buy other things with.

The best feature of ^“created paper” is your freedom to structure in any terms it might take to make a deal. It can call for ^“interest only^“ payments, or ^“principal only^“. It can have due-on-sale clauses, prepayment penalties, release clauses. It can be indexed to offset inflation . It can have an adjustable rate, growing equity, reverse amortization, shared appreciation – in fact, just about anything you want to write in to it. All you have to do to create your own Notes is to go down to your nearest stationers and purchase a few samples of notes and mortgages or trust deeds. After reading them over, white out the features you don^'t like and add in the things you^'d like to see included. I drafted a variety of these and ran them by my Title Company's attorney to make certain they would be legal. Then I kept the language in my brief case so that I could write a Note on the spot if need be. It^'s a good idea to get your notes typeset or reproduced so that you'll have the instrument you want with you at the time you^'re trying to make a purchase.

 

Do-it-yourself-dollars are good for selling too. With money tight the buyer may have only one chance to buy his home and that may be to buy from you. You can build in just as many benefits into your ^“created paper^“ upon sale as you can upon purchase. Bear in mind that inflation robs the lender and rewards the buyer, so always make provisions for either a reasonably short pay off period or for principal and/or interest which increases with the rate of inflation. By playing off periods of high interest against those with low interest rates, you can make money coming and going. Here^'s how:

 

In 1978 I used a combination of ^“created^“ and ^“discounted” paper to buy several pieces of property from a developer. We agreed that my ^“paper^“ would be valued at a price which would yield 9%. By 1980 money was tight. I was able to buy my own paper back at a negotiated price based upon a yield of 25%. The amount in question was $44,000 based upon the original value of my ^“paper^“. I was able to buy it back for just over $24,500 in cash. When you're creating ^“paper^“ always keep one eye cocked for the future because as the cost of credit rises, the paper you or anyone else holds loses value proportionately. You can test this for yourself. Watch the bond index in the Wall Street Journal fall as interest rates start back up.

 

I'm often asked why I spend so much of the limited space in this letter dwelling on the economic picture. It precisely so that I can help you come to your own conclusions regarding interest rate trends. Hopefully you'll be able to use paper to create cash when cash is plentiful and then use the cash to buy back your paper – or anyone else's – when interest rates are high again and cash is king. Let^'s see if we can pull this month^'s lesson together in a couple of illustrations.

 

First, how do we use Exchanging to create cash? One fellow I know is a Pro buyer. He uses “created paper^“ to buy houses with large equities. Since the paper isn't secured by the houses being purchased, their equities remain unencumbered for the most part. Then he Exchanges several smaller houses for a larger property which could be a small office building or strip center – or even a large free and clear executive home. Finally, he either sells that property or places a single new mortgage against it, pulling out cash. He might do the same with the smaller properties, but the costs of sale or loan closing would be prohibitive.

 

Remember, when you buy something with paper secured by something else, or when you exchange into a high equity property, that equity is available for conversion to cash. on the other hand, when the seller carries back a trust deed or mortgage on the property you^'re buying, the equity is represented by the carry-back paper. It is no longer available to use to raise cash. And if you concentrate on creating paper in your transactions to conserve cash you'll have the opportunity later to buy discounted paper with the saved cash to make added profits.

And if you want to avoid having to negotiate a ^“substitution of collateral^“ clause just when your purchase is moving smoothly toward closing, use a corporate note. This way you'll still be able to sell or borrow against the property at will to raise needed cash.

Copyright © Sunjon Trust All Rights Reserved, www.CashFlowDepot.com.  (888) 282-1882 
Quotation not permitted.  Material may not be reproduced in whole or part in any form whatsoever.