Options Make More Expensive Properties Feasible

Topics: Options

     By Jack Miller

     All around the country, there are larger luxury homes for sale that aren't feasible as rentals, but which could generate huge profits using Option techniques. Because of the down-sizing of corporate America and Government institutions, many formerly high-paid executives are in a cash squeeze with high house payments which no longer fit into their shrinking budgets. The market for these houses is extremely thin in many areas and sales are slow. Cash invested now can buy a disproportionate share of the eventual sale proceeds. Here's a way that these Options can be structured:

     Let's say that a $350,000 house with a $200,000 loan requires monthly payments of $2000. The recently laid off occupant living on severance pay can afford no more than $1500 per month payments, and is falling behind. There's too much equity to walk away from. Suppose you contracted to buy a purchase Option for $50,000 payable in one hundred installments of $500 per month to be used to augment the owner's mortgage payments. Your negotiated bargain price would be $75,000 over the mortgage balance at the end of that time or when the house finally sells.

     Both parties could benefit from this arrangement. The owner would cut his out of pocket monthly payments down to a manageable $1500. You would effectively have a zero-interest loan payable on the $50,000 installment contract for the Option. If the house sold right away, you'd receive everything over the $75,000 payable to the owner for your own use. Meanwhile you'd continue to make your $500 per month payments on your contract. Remember, it doesn't come due merely because the owner sold the house. If the property failed to sell right away, you'd get the benefit of all future appreciation and the loan reduction without any vacancy, repair, or management expenses until the house sold. In the meantime, the seller would be receiving his profit in subsidized life-style benefits.

     Options work best with those who want to raise cash or create income while they continue to use or hold the optioned property. Another example of this might be a commercial property or a tract of land that was a few years away from being developable. Contrast two methods of buying a $100,000 tract of land. Conventionally, one might expect to pay $10,000 down, and 10% per year over 10 years on the $90,000 balance. With full amortization, payments over the period would be $1322.64 per month ($15,871.71 per year). Over the 10 year period the total funds paid out would amount to $168,717.12.

     Alternatively, suppose the owner were offered $10,000 for a one year purchase Option. It would include a right to extend the Option an additional year each time an additional payment of $15,000 were paid. All payments would count toward the purchase price. If the Option were extended 6 times, the full purchase price would be paid within 7 years. The total amount paid would have been $68,717.12 less than with a conventional loan. Moreover, annual payments would have required $871.71 less too.

     There's no magic potion you can use to induce someone to sell an Option. A key is to empathize with other's financial and tax problems, then to proffer the Option as a problem solving tool. If a person needs to raise money to pay taxes, selling property will only make the problem worse, while selling an Option itself can create tax-free cash. If a person has credit problems, lending him more money won't get him out of debt, but buying an Option from him will provide needed funds with which to pay his bills and/or clear up his financial statement.

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