June 2008
Vol 31 No 9
I’ve been pondering the fundamental changes that have been taking place in the housing market; and ways that someone without a lot of money and the need to generate income can respond to them. The market is slumping despite being propped up by governmental fiddling of interest rates and mortgage terms to provide relief to current homeowners. But, amid all the furor of the coming elections and the slowing economy, little thought has been given to those in the “equity” businesses. This is the term that my pal Jack Griffin has given to those who fix up, buy, sell, and finance houses. With their markets shrinking, even with lower interest rates, they need to seriously consider their alternatives, if they expect to survive until things improve.
In recent years, with low interest rates, low inflation, and permissive lenders; making money with houses has been pretty straight forward. Houses were bought, readied for sale, and sold for more than they cost. The key to being successful in this enterprise lay in finding motivated sellers who were willing to sell at prices low enough to provide a reasonable margin of profit. Doing this, an entrepreneur could average about $30,000 profit with each house bought and sold. To make more money, all one had to do was to increase the numbers of houses processed each year. A growing market and ready sources of cash made this fairly easy to do.
The good news was that many people who would otherwise have been qualified only for low level jobs working in a salaried job suddenly found themselves able to command far above average incomes with only rudimentary skills. Profit was earned primarily when a property was bought, and harvested when it was sold rather than because of any of the services provided by the entrepreneur. Brokers earned fees by finding the houses, and later by selling them. Hired contractors and/or temporary labor did any required fix-up and repair. Various lenders competed to lend needed capital. Title and escrow companies handled required paperwork for financing, purchase, and sale. The bad news is that all of their prior successes failed to prepare most of the big winners in the re-sale housing market of yesteryear for the slumping market of today. Not only did very few of them save any of their profits, but the specialized on-the-job training skills they acquired left them high and dry, along with all the links in their food chain, as the economy slowed.
Whether we like it or not, in recent years, the U.S. economy was based more on appreciating housing than on any other economic factor. Before you disagree, think of all the materials stocked by all of the building products suppliers, of all the pickup trucks sales, of the trillions of dollars of home loans bought and sold in the financial markets, and of all the insurance products and raw materials. At local, State, and federal levels, revenues were saved when the construction industry absorbed millions of people who would otherwise have been unemployed; and revenues were increased by all of the sales, income, business, property, excise, transfer, and alternate minimum taxes governments collected. Now, with declining tax revenues, massive cutbacks are being imposed on government spending programs, and this is being felt all through the private sector.
It’s time to cast our nets on the other side of the boat to find some of the opportunities that have been overlooked by almost everybody. Those who sell housing related “services” in lieu of “products” can continue to do well, and to generate income. There’s a simple reason for this; the longer that houses remain in inventory, the more services they demand of people who don’t have the skills to provide them. This begs the question: How long does it take to acquire these needed skills? In the following pages of this month’s letter, I’ll try to provide some insights into services you can provide to improve your monthly cash flow.
FIND A NEED AND FILL IT . . .
In almost every success book, to achieve success, a would-be entrepreneur must find a need in the marketplace that hasn’t been satisfied, then find a way to satisfy it. Today’s market is no exception. Instead of looking at the housing market to figure out your strategies, look at a particular segment of your local market to decide where most of the need is, and who the neediest players are. No doubt, new upscale builder house inventories offer some of the best opportunities for those who can afford to hold them, but they may be priced far wide of the sweet spot in the market. There are plenty of fixed up houses in marginal neighborhoods, but the tighter lending standards make these difficult to sell for cash. My ideal house is older, in need of cosmetic repairs that might cost 3% of market value, with a high equity, that has been on and off the market for a long time.
What about people? Builders, Fixers, Dealers, Accidental Landlords with out of control tenants; those with high negative cash flows, or impending balloon notes; or those facing ruinous interest rate adjustments, or insurance rate adjustments, or tax reassessments; or who own houses that need major repairs. All of the above are confronting increased holding costs and bleak financial futures in the foreseeable future. What do all of the foregoing owners have in common? They need more income or cash to tide them over until they can sell their inventory.
Lending them the money they need could be one of the things a person with spare cash could do to create income; but this should not be done in the ordinary way that lenders typically operate. First of all, a person who is dying financially is prone to do desperate things such as filing bankruptcy to avoid losing property. The delays associated with multiple bankruptcy filings could tie up loaned money for years. So, the first caveat is to try to gauge just how desperate an owner is, and the extent of his acceptance of his moral obligation to repay his creditors.
As a lender in uncertain times, you also want to be certain that there is plenty of equity in a house to protect your loan. The nature of your transaction must remain essentially one more based on commercial benefit to you than an act of mercy to save the other party. If your motives are primarily charitable, just write a check and make a gift of the money. This way you won’t be disappointed if you aren’t repaid. On the other hand, if you’re making an investment, the only certainty that you’ll be repaid is if there is ample equity over and above your loan to help pay for the costs of foreclosure and resale in the event of default.
One of the things that creates distress is the monthly loan payment. When you make a loan that requires payments, it may be more comfortable for you, but not as beneficial to the borrower who winds up with higher payments. A straight Note with no payments required until sale or on demand after a specified period keeps more of your money earning interest and gives more immediate relief to the borrower. You can usually charge a higher rate of interest without payments than with them, so if the borrower has plenty of equity as collateral, consider doing this.
Instead of lending money, I prefer to have the house titled into a Trust and give the owner an Option for a stated period of time to buy it back at a price that will make it all worthwhile to me. Admittedly, this is a financing device insofar as the tax treatment of the profit is concerned, but it avoids the need for foreclosure. If the borrower doesn’t buy the house back, I already own it. Just as a loan can be sold to another investor subject to its original conditions, so a house that is bought subject to a buy-back Option can also be sold to another investor who might want a trouble free investment without the need for management. This provision should be stated both in the Option and in the conveyance of the house to a third party investor so that everyone is protected in the transaction.
Lending money is great for those who have it, but what about those who have no money to lend; what services can they provide to create income quickly? Let’s explore this a little further. In the process, hopefully, you’ll see something you can do that doesn’t require much more than time, talent, and desire.
ONLY PEOPLE CAN WRING PROFIT FROM PROPERTY . . .
A house doesn’t perform well unless a special magical ingredient is added: people. Only people can re-model and landscape individual houses; or find potentially profitable houses to invest in. It takes people to negotiate profitable prices and terms “going in” and “coming out”. People estimate, and complete, repairs and improvements to make a house habitable. They decorate and “stage” it to motivate other people to pay the highest price. Without people acting as Surveyors, Appraisers, Brokers, loan, escrow, and title officers no houses could be sold or financed. It takes people to manage houses to make them produce income. Let’s face it, without all of these hired people, a house would never leave the lumber yard.
When it comes to finding ways to make money in the current market, you should take a harder look at the foregoing. Can you see one or more services that you can provide from among the above; or that you can make money arranging? This is particularly true today. Test yourself, despite all the bad news coming out of the housing markets, wouldn’t you like to tie up a house priced at 50% of true fair market value in today’s market? Or one at today’s true fair market value that could be bought with nothing down, zero interest, and no negative cash flow? Wouldn’t you be willing to pay to have a contract, or an escrow, assigned to you? So would lots of people. Hence, one way to make money today is to focus on finding true bargains and wholesaling them to those who can’t find them?
Today, with sales dropping like a rock, the person who can produce a qualified retail buyer can just about write his own ticket. In areas where it’s illegal for non-brokers to pay or receive finders’ fees, it’s usually not illegal for a person to obtain an Option at a low price and to sell it. Sellers who get out first will suffer the least. Smart sellers will take less for a quick sale; but, instead of lowering the price; thus lowering commissions, they should raise the incentives. It’s amazing how sales pick up when a person is willing to pay finders fees for qualified buyers; and higher commissions to sales people. I ought to know; I’ve happily paid as much as 15% to a Broker who could find a buyer to cash me out.
In many areas today credit reporting has become critical for borrowers and tenants alike. The client volume for those who provide this service to lenders and landlords is growing. Dispossessed owners are trying to rent quarters, and would-be Buyers are trying to finance their purchases. Can-do Mortgage Brokers who can find lenders to lend to marginally qualified buyers, or against marginally qualified properties, are staying busy. The same goes for those who can line up investors who will buy seller carry-back loans at discount for cash. This requires a license in some areas, but the test isn’t too strenuous and the fees are reasonable.
Except for GNMA and FNMA, the secondary mortgage market is in disarray. Those who sold sub-prime loans without disclosing the weakness of the borrowers are now being threatened with law suits. Lenders are tightening loan underwriting criteria. Fewer borrowers are going to be able to obtain conventional financing. This is going to create a terrific private loan market for those in the “paper” business. Prudent lenders are going to have a field day buying and selling Notes that sellers carry back to sell their homes. Here are five things they might do:
1. Help finance stale inventory for a percentage of ownership.
2. Provide a secondary market for good notes carried back by Sellers.
3. Provide liquidity to Brokers who need financing on good houses, or who carry
back Notes for their commissions.
4. Sell Notes that they’ve bought at discount to Roth IRAs at full face value, then
service them to generate passive income for themselves; retaining the right to
foreclose them by substituting other Notes. This way they’ll can get cash from
the foreclosure sale proceeds, or get the property back at the loan balance.
5. Buy good discounted mortgage Notes personally, or in their IRA, and hold them
for future profit and/or income.
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MAINTENANCE AND MANAGEMENT ARE THE MOTHER LODE . . .
Anytime “property management” is mentioned in polite company, people shrink back in horror. On the other hand, those who take advantage of severely discounted prices to buy houses at today’s low prices will need to hold them until the market returns. They will use rental income to help support holding costs. Another group of reluctant managers are owners who are “trapped” in houses they can’t use or sell. They need to rent them to keep insurance costs down and income rolling in.
If you’re among these, don’t be afraid to be a landlord for a while. Single family landlords make the most money when house sales slow down. Here are some tips for those who are treading financial water waiting for better times as well as for those who currently have rental property they want to super-charge:
A. Advertise zero deposits combined with higher rents to credit-qualified tenants.
B. Take property, or merchandize, or services you can use in trade for higher rents.
C. Sandwich-Lease other people’s inventory or vacancies to create cash flow spreads.
D. Equity share with existing tenants. They buy half, and you keep half.
Opportunity starts at the point that need arises. Today, the need for people who can handle all the chores associated with property management has never been higher; and this creates numerous opportunities for multiple profit streams. If we break down property management activities these will emerge. Read on!
RENT UP: Typically, those who provide rent-up services run all the ads, screen all the applicants, get leases signed, and collect the initial rents and deposits. For these services, they usually get half the first month’s rent plus out of pocket expenses. Tenants who move out during the lease term are replaced at no charge.
MAINTENANCE COORDINATION: In lieu of contacting the owner, tenants call a single maintenance emergency number to report repair problems. The appropriate response is initiated and necessary workmen and materials are made available to correct the problem. The Maintenance Coordinator gets a fee equal to 6% of the repair costs. He can also earn extra money by doing repairs himself at competitive rates.
RENT COLLECTIONS: This job involves collecting rents and pursuing those that aren’t paid on time. Rents and late fees are collected, deposited in a separate account, credited, and distributed as directed with monthly reports sent to owners. This service costs approximately 5% of collected rents. $100 plus out of pocket expenses is added for pursuing late rents and “encouraging” late payors to pay up.
ENFORCEMENT AND EVICTION: This job involves service of a 3 or 5 day “Pay or Quit Notice” when rents can’t be collected. It also includes generating, filing, and serving a Writ of Possession or Unlawful Detainer; and either representing the owner in an eviction proceeding or hiring an attorney to perform this function. Fees are usually about one half month’s rent plus out of pocket costs.
TENANT MOVE OUT: When a tenant leaves possessions behind, depending upon State law and the terms of the lease, they are usually removed to the curbside, taken to the dump, or placed into storage. The fee for this service is usually pegged to half the monthly rent, but can also be based upon the rental for a truck, dump fees, the number of loads, and the amount of labor that has to be hired and supervised.
PREPARING PREMISES FOR RENT-UP: Once a house has been vacated and all possessions removed, all junk must be removed and the premises must be cleaned and readied for occupancy. This service is often based upon time and materials, but also can be contracted for a flat fee equal to half a month’s rent.
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.
