Options Vs. A Listing Agreement

Topics: Highest Bidder Sales

There’s some confusion about how Options and Highest Bidder Sales work together. I hope this article will clear up some of the misconceptions.

If you’re a licenses real estate agent, you can get a listing on a property which gives you the exclusive right to sell the property then make a commission.  The commission is well defined and spelled out in the listing agreement.  If you got the listing AND you are successful in marketing to find a buyer, you will typically make about 6% of the sales price as your profit. So, on a $200,000 house you could make $12,000

Not a bad payday! 

However, the reality is that most listing agents rarely also find the buyer so they have to split the commission with the agent who does.  So each agent will make about 3%, or $6000.  But it gets worse because most real estate agents also have to split their part with the Broker for their office.  So, that $12,000 commission could actually get sliced and diced FOUR ways, with each person making about 1.5% of $3000.

Not so good! 

If you are not a licensed real estate agent, you cannot get listings on properties then do the marketing to sell them.  You also cannot be paid a commission.  So, the alternative is to write a contract to buy the house with a contingency clause that says you must find a buyer before you will close.  There could be other stipulations that say you have a certain amount of time.  Or you and the seller could agree that you will be paid 100% of the profit over the contract price OR the contract could be written that you and the seller will split any proceeds over and above the contract price.  A contract with a contingcy clause is an OPTION. With Options, you and the seller can write what ever you mutually agree to in to he agreement.

An Option contract is usually written for at least 20%, sometimes 30%, below market.   If the house needs a lot of work, the Option contract could be for 50% below market or even more.

When you have an Option on a property, then you do a Highest Bidder Sale to find the buyer, remember you usually get paid the difference between the Option contract price and what the house sells for.

Let’s take that same $200,000 house.  It has been vacant for 7 months after the owner died.  The Heirs had to wait for probate to finish to sell the house.  The house is in good condition but a bit dated.  The heirs are anxious to just move on so they agree to sell to you for $145,000 — a bit more than 25% below market. 

When you do a Highest Bidder Sale, the house sells in less than a week for $190,000.

The difference between the Sales price of $190,000 and the Option contract price of $145,000 is $45,000

Because YOU got the Option contract and You did all the marketing for the Highest Bidder Sale which found the buyer, you make 100% of the $45,000 profit.  (unless your Option contract said you’d split it with the sellers, then you’d only make $22,500)

Your $45,000 payday is much more than the $12,000 payday a real estate agent would make.

Just think how many more “deals” the agent would need to do to make the same $45,000!!

Plus, the real estate agent would probably have to wait 6 months of more to sell the house then get paid, whereas, you would get paid in less than 30 days!

Now, I hope, you can understand why Options and Highest Bidder Sales are such a powerful tool to grow your bank account quickly!!!

Imagine doing two or three Highest Bidder Sales each month!

Here’s an article by Jack Miller to further explain the benefits of OPTIONS vs. a listing agreement.    This is from Jack’s Generating Cash Flow online seminar course:

I think the days of traditional Real Estate Brokerage are drawing to a close.  Marketing is fleeing traditional advertising and listing on the MLS and heading straight for the Internet.  Craigslist.com is already drying up newspaper ad lineage and brokerage fees.  You can bet that it won’t be long before some bright lad comes up with a virtual national MLS that anyone can access.  One thing it can’t replace is an Option to buy or sell.

Of course, when you can Option a house at a discounted price and sell it to an end retail buyer, you get all the benefits of all of the foregoing techniques without the necessity of splitting profits or income with an investor.  Nor need you do any management if you don’t want to.  Options are certainly well worth the effort and expense you might incur to learn more about them.

I first started using Options in lieu of listings as a Broker almost 40 years ago when I began to realize that fees associated with sales of my traditional real estate listings had to be divided four ways; 25% to the selling salesman, 25% to the listing salesman, 25% to the selling Broker, and 25% to the listing Broker.  By refusing to list properties, but optioning them instead, I could control the sale of the optioned properties until I found a buyer, and thus keep all of the profits for myself.

My business plan was to option properties at a negotiated 80% of current fair market value, net to the seller.  Ten percent of the 20% discount from retail market price was dedicated to readying the property for sale and motivating other Brokers to sell it; or to give discounts to Buyers.  I kept the remaining 10%.

Let’s look at how this worked.  Suppose a $300,000 house would have earned $18,000 in fees, with each of the four real estate licensees each receiving $4500; my net 10% would have been $30,000.  That’s almost 7 times as much as I would have earned simply by listing the property.  Doing this, I was able to retire from Brokerage and start touring the country in my motor home in 5 years.

My Options usually were bought with a $100 bill, given directly to the owner, which didn’t count against the owner’s 80% of the sale price.  They lasted for 6 months.  I think I got two more months than I would have with a conventional listing simply because my measly $100 bill showed that I had more confidence in my ability than any other Broker who might have merely listed the house and tossed the listing into MLS waiting for someone else to come up with a buyer.

Working Without a License

When I started optioning houses instead of listing them, I had to teach other Brokers as well as title and escrow companies how to handle them.  Just as real estate laws don’t apply to sale of Options, real estate licensing laws don’t apply to them either as a rule, unless specific State Statutes address this.  When a license is required, I have found it relatively easy to get a Broker to “front” the transaction in return for a fee equal to about 1% of the sale price.

When listing houses on craigslist.com, there is no problem with listing the Option holder (which might be an individual, trust, LLC, IRA. or corporation) as “Owner/Optionee”.  I also specify that all offers may be presented by any one who has one directly to me, rather than through another Broker.  The Brokers like this and so do I; because I may be willing to accept a creative deal that a Broker might turn down.  This way I can make my decisions on the spot as needed.

Optioning Houses to Sell to Buyers

There are two markets that you can sell into once you get a profitable Option:  The first is the wholesale market.  In this market, you can get paid in cash very quickly, but you have to leave most of the profit on the table.  The second is the retail market in which you have to spend more time and money marketing, but reap higher rewards.  I think your best course is to sell into both markets; taking cash when you can get it quickly, and holding out for bigger profits when you can afford to do so.

Today, many counties provide $5000 to $10,000 as cash incentives for people to buy homes.   In addition, the feds will pay the greater of 10% of the purchase price or $8000 in the form of a tax credit to first time married home buyers who make less than $150,000 ($75,000 for singles) per year in Adjusted Gross Income.
Those who haven’t owned their home for 3-years are counted as first time homeowners, even if they have owned rentals or a vacation home.  This can be an incentive to both buyer and seller.

Even those who pay no taxes can receive up to $8000 following the purchase of a home, even when it cost nothing down and the owner is carrying all of the financing.  There are some conditions:  The home must be owned and occupied prior to the first day of December 2009; and the recipient must occupy it for the next 3 years.  If the house is sold within 3 years, the money must be repaid out of the sale proceeds at settlement.

If a house were bought in 2009 prior to the buyer’s 2008 income tax return being filed, the tax credit can be claimed and paid in 2009.  If the buyer’s tax return for 2008 has already been filed, an Amended Tax Return for 2008 (form 1040X) can be filed to claim it.

Clearly this is a real opportunity for those who are trying to sell houses; especially when combined with the historically low 30-year fixed interest rate loans that are being bought by FNMA.  Currently there are few guidelines or regulations to guide participants in this program, so one might presume that the following variations on the theme are not prohibited.  Now, let me stretch your imagination a little:

Suppose your buyer can’t find a loan, but you are prepared to provide seller financing with a low down payment plus the amount of the tax credit?  The house could be sold with two loans on it.  A first mortgage lien at market interest rates, and a 2nd mortgage lien in the amount of, say, 75% of the available credit that can easily be calcuIated once the house price is set.

Thus, when you offer the house for sale with “nothing down”, you’ll have to explain that all you’re doing is deferring the down payment until the tax credit is received; at which time must be applied to pay off the second mortgage lien.  From the buyer’s standpoint, it’s still a good deal, especially when he will get the remaining 25% of the credit in cash when it is received.  Of course, to motivate buyers, in lieu of cash, he might get a new flat screen TV, or some other toy he’d value more.

What about pricing?  If history teaches us any lesson, it is that sellers can charge more when they sell a house with a low down payment and low interest rate.  So you should be able to justify selling a house for a higher price with higher payments.

Since the maximum cash tax credit that can be received is based in part on the price of the house that is being bought, the higher the price, the more cash credit that will be received up $80,000 for a house or qualifying mobile home.   A prudent seller would take pains to see that any documents needed to apply for and qualify for this credit were completed and submitted when the house or MH was bought.

Of course, you could cash out the house with an institutional loan.  In such case, the price would need to be within the price range of comparable houses.  At this point, the scenario gets a little murky.  There are dissenting opinions as to whether or not the $8000 credit could be used to qualify for a new loan.  Apparently this would be up to the lender.

On the other hand, it might be possible to work out an escrow arrangement under the terms of which a loan could be made to the buyer secured by the tax credit he would get.  This would be akin to all of those payday loan and income tax refund loans that abound in the market.  It might pay to get into touch with can-do Mortgage Brokers to see what might be worked out with lenders.

One more thing you might consider adding to the deal might be a First Right of Refusal Option to buy the house at or near the original price if it were ever offered for sale.  This way, you could liquidate some of your pet properties and be able to buy them back at some point in the future with a new loan on it that you’d not be liable for.

Flipping Contracts vs Flipping Houses

It’s a short journey from listing house for sale, to Optioning houses to be sold, to selling my Options to buyers rather than the houses themselves.  This should be particularly interesting to people in places like California where real estate sales require the buyer to come up with an extra 3.3% tax in cash up front, and where sellers have to surrender their federal ID or Social Security numbers and receive an IRS Form 1099 that reports all their profits.

There is very little difference between being a Broker who obtains listings and an entrepreneur who ties up houses on Options, then sells the Options.  Admittedly, there are no guarantees that you’ll find buyers for your Options; but the bigger your profit spread, the more buyers you’ll find.  Thus, it’s incumbent upon you to be able negotiate very good deals.  One person who flips Options contracts  reports making $20,000 per month with only token amounts invested, so this is something you should give serious consideration to.

How does this work?  Many of the laws that pertain to real estate transactions do not pertain to personal property transactions.  Since an Option is merely a form of a contract, it isn’t real estate, but is personal property; not subject to restrictive real estate laws.  This creates terrific benefits for all parties.  The buyer gets a house that has already been discounted by the Option seller.  The Option seller can create a terrific yield when the token sum given for the Option is compared to the profit realized.

Of course, Options don’t work unless they are written correctly in enforceable language, recorded, and secured by a Mortgage or Deed of Trust.  Alternatively, the optioned property can be conveyed into a Trust with an independent Trustee who is less prone to want to renege when the profit is realized.  In addition to the foregoing, I like to have all documents required to close the transaction, including the HUD statement, signed by the seller so that a sale can be closed quickly and efficiently when a buyer comes out of the woodwork.

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