Financing – conventional vs creative
In the real estate investing game there is a lot of talk about financing in all of its forms. As you become a more sophisticated real estate investor, more and more financing avenues open up before you.
Cash is an option for some. Cash is also my least favorite way to buy houses. At some point you will exhaust your cash and then you are done buying.
Most real estate investors start with banks. Banks are the traditional way to go if you want to finance the purchase of real estate. Banks will let you put down anywhere from 10 to 30% of the purchase price and allow you to finance the rest. As members of the Pittsburgh REIA, we have the best banker contact that I have ever heard of in Ron Manges of First National Bank. Ron is not only a pleasure to work with, but he is also very smart. If there is a bank loan program out there, Ron knows about it. I can’t tell you how lucky we are to have Ron Manges as part of our club. The problem with banks is that at some point you will run out of down payment money. This isn’t a terrible thing, unless the deal of a lifetime comes up and you can’t borrow any more money.
The next avenue for most real estate investing is the home equity line of credit or HELOC. What you are doing here is risking your home on your investment. I really don’t like HELOCs. There are a lot better ways to gather money.
Private money is wonderful. Private money is money that is loaned between private parties. The terms of repayment are whatever the two parties can agree upon. You can get private money are insane low prices. The hard part is finding the private money and that is an entire class all by itself. The pitch is simple. You can offer private lenders a higher rate of return than they can get almost anywhere else and you can do it safely by securing their interest with real estate. There are more details, just ask me questions if you want to know more.
There are two types of private money. Friends and family comprise the warm market private money. These are the people who know you and they trust you because they know that you are an expert real estate investor. Keep in mind that expert is a relative term. All you need to know is more than them and you are an expert.
True Private lenders are strangers or acquaintances who are driven by your deal and their greed. Yes, greed is good. Many of these private lenders will be self-directed IRA holders. Their goal is to get a high rate of return. That rate of return is whatever you can negotiate. A lot of these people are happy with a 4% APR. So don’t give the farm away just because you are going to make a pile of money.
Hard money is called hard money for a reason; it is hard to pay back. Hard money is categorized by high interest rates and in many cases points on top of that. So why do investors pay 10% and higher interest rates? Investors will pay high interest rates if the profit yield of the deal is high enough. Imagine that you need $200,000 to make $350,000, how much interest would you be willing to pay for that loan? Would you give up 50k, how about 100k of the profits? It all depends on how many dollar signs are flashing in front of your face. Lucky for us, Pittsburgh REIA has access to more hard money than any of us could ever use.
Owner financing is the best way to buy property in my opinion. Once you master the art of owner financing, you will never need to borrow money again. Owner financing can include subject-to deals, land contracts, lease options, or really any form of installment sale. There are a lot of ways to use owner financing, and the subject is too broad for this newsletter. During the year we will spend time talking about each of the techniques of owner financing. Some plan to attend the main meeting each month, and bring a notebook.