Private Lending

With the recent state of mortgages across the United States, we have seen the almost complete end to:

Sub-prime loans
Hard Money Lenders in Many Locations
Cash Out Refinances for Investors
Purchase Loans for Investors

And all in all, getting a loan for a poor credit home buyer or an investor with any credit from bad to over 800 scores is just getting harder and harder as the year goes by. Don here at our office has spent almost most of the week on the phone calling and talking to all different kinds of lenders, just to find a way to get you guys funded.

We figure that most of you are looking for several different types of loans

Loans to purchase turn key rental properties with 10% or less down
Loans to fund the purchase and rehab of properties
Refinance Loans to refinance out of cash or a rehab loan with in 3 months or less from your purchase.
Refinance Loans to perform a cash out refinance and get a little money.

Then in the recent news that Fannie Mae and Freddie Mac are considering or have decided to limit the number of loans a person can have to 4, well that is further putting a cramp in your purchases and our sales (our purchases too!)

So while we can't do much about rules and regulations of the lenders other than search for that perfect loan from a bank lending their own money, that will be holding the loan and not selling it (an therefore not caring about Fannie or Freddie Rules), and that have the desire to work with the investor, well I can tell you all a little bit about alternative funding sources:

1. Private Lenders

2. Self Directed IRA's

3. Unsecured Lines of Credit

4. Partnering

Today I wanted to talk to you about Private Lenders. First let me say that you should do a little research into SEC Rules and Rules in Your State and run any forms or documents you may decide to use by an attorney in your state to make sure they comply with all the rules and regulations there.

So first of all you need to find someone who might want to be a private lender. Many people teach advertising in the newspaper something about earn a return on your investment with a loan secured by real estate. And that probably works great, but you may also start getting phone calls from the SEC guys and you don't want to go there.

A couple of gurus out there advocate doing a direct mail to a purchased list of people that have purchased CDs at local banks in a certain price range. These are lists of people that you can purchase from list servers. Send out a mail piece inviting them to a lunch where you will explain the latest and greatest investment - YOU. But with all the bad press lately about the professional fund managers doing lunches and bilking the elderly into buying into annuities and other things that were not sound investments, well lunches should be on the out list as well.

So what can you do? Well the best thing I have found is to educate yourself on exactly what it is you do with real estate investing and how you make money and figure out how to explain that to other people. Then spend a little time learning exactly how a person can lend you money for a deal and act as a bank so that you could also explain that to other people.

Then your next step is to let everyone you know what it is that you do in investing, how you make money, and be sure to be able to substantiate that you make money. You might also let slip how successful this or that deal was and how much you might be paying to borrow money from a bank.

When people know what it is that you do, that you do it successfully, that you pay your bills, they will start to ask you questions. They want to learn more and you want to build up your expertise and build their trust. And then when they reach that perfect level of trust, many of the best private lenders will come to you.

Our first private lender was one of our vendors we worked with in our real estate business. And after he saw us successfully complete about 4 or 5 deals or so he came to us. His offer was that if we came across just one extra deal that needed financing and our normal way of financing was used up, could we partner with him. He would purchase the property up to a certain price on his line of credit, we would do the repairs out of our funds, we would sell the deal and make the profit and he wanted $5,000 of the profit. Not a bad deal to new investors like us.

Our next private lender also came to us. He had noted that we had bought and sold several homes, that we had both quit our jobs and were doing this full time, that we still paid our mortgage and had not been kicked out of our home and were driving nice cars. When ever we saw him he wanted to go see our latest junker house we had just bought and find out how much we had made on the last deal. Then one day the question was, "How much are you paying in interest and do you think I could fund a few deals for you?" And thus our 2^nd private lender was found.

Then a year or so ago, I offered to teach a class to our local REIA club and explain how my private lending system works - just so other people who wanted to find private lenders could learn more. Out of that class, two people decided they wanted to be lenders to us. One actually became a lender and the other, well we have not been able to get a deal together with him yet.

From that class, the person who became a private lender, he has referred another lender to us and I have made another presentation to the entire REIA group and found yet another private investor.

So you can kind of see where they come from: people you already know who trust you and people you can inspire by giving them free information.

I am fairly confident that you know what it is that you do in real estate to explain to all of these people, so lets focus on how a private loan works.

First, find your private lender how ever you find them. I would suggest a face to face meeting or a teleconference with them to discuss how your system works, what it is that you do, the risks involved and what you do to minimize them, and ask them to commit on paper how much they would be willing to lend you to start with.

Then you will need to find a property that you can purchase with the funds from your lender. I usually wholesale so I am only borrowing funds for the purchase and not the rehab, but you could also borrow rehab funds as well.

Once you find the property, perform your due diligence to be sure that the property and the cost of any rehab will be under 70% of the After Repaired Value of the home. Be prepared to be conservative on that 70% rather than optimistic so you don't over tax your lender and so if something were to happen to screw up the deal, you have the remaining 30 % to save your butt so to speak.

You will go to closing just like with any other property financed by the bank and you will treat your private lender just like any other institutional lender:

You will ask for both an owners title policy and a lenders title policy. Here in Kansas City the seller pays for the Owner's Title Policy and the buyer pays for the Lender's Title Policy. That means that you will incur an extra charge of about $190 for that extra title policy over paying cash, but no extra fees over using a bank lender.
You will also want to make sure your lender is named as the 2^nd insured on your hazard insurance policy, just like you would if Bank of America was your lender instead of your neighbor.
You will also want to fill out 3 legal documents. You can ask your title company or escrow agent of these documents or you can go to goolge and probably find exactly what you need:
1. A Promissory Note
2. A Deed of Trust or a Mortgage (depending on your state)
3. An assignment of Rents in the case of default your lender would then be able to take over the property and collect the rents to satisfy your debt.
I would also suggest a disclosure form that outlines exactly what it is you will be doing with the property, how you plan to exit out of the property, the time line you are projecting and a disclaimer that notes that there are no sure bets in real estate and your entire plan could change while owning the property.

This disclosure is very important. Your lender needs to understand that the market could change and what you planned to be a short term buy, and wholesale flip is just not selling and you are going to have to do a little fix up and sell as a lease to own over a 2 year period rather than a 3 to 6 month period. Have contingencies and the ability to extend the loan if you plans must change or have a back up lender that can come in and take the place of the first one.

How the transaction takes place is the lender will wire all funds in to your title company or escrow agents office. You will go in and sign all the above legal documents and the title company will pay off your seller. You should never touch the funds except for in the case of a few dollar overage in the loan amount over the amount you need to purchase. For example when my lender sends in funds from their IRA we need a number to ask for and sometimes we do not have an exact figure yet. So we estimate and round up to the nearest $500 and sometimes we get back a few $100 at closing. We use this to pay for insurance and mowing and other upkeep during the time we own it.

If you are borrowing funds for purchase and rehab, you would want to have a system set up to make sure that you only get funds as you need them for the rehab. Possibly have a time line set up for your rehab and when contractors would need paid and only request the funds to pay the contractors as needed. NEVER take the full rehab amount at closing because you may get over confident and spend the rehab money betting on the money coming in from another sale and you don't sell. Then you end up with all your rehab money spent an nothing to rehab the house with, it sets, you can't sell or rent, and your lender does not get their money.

So how should you pay your lender. There are several choices and they would depend on your investing strategy and your lenders wishes.

1) Interest Only due on sale. On our short term wholesales, we usually let the interest accumulate and pay it all at the sale of the property.

2) Interest only paid monthly, quarterly, or annually. This again would depend on how long you would hold the property and your other cash flow. If it is a long term loan and you are collecting rent monthly I would suggest to pay your interest monthly as well, just to make sure you lender gets paid.

3) Amortize and pay monthly The best way to pay on a long term hold would be to amortize it and pay a little principle and a little interest each month so your tenant's payments are paying down your loan. You don't want to be in a situation where your long term buyer pays you payments over 10 years and you decide to get better cash flow by paying interest only. Then when your buyer reaches the payoff part of their loan and you then have to come up with the full loan amount to pay off your lender, it would be much better to amortize and have your loan run out before or at least at the same time as your long term buyer.

4) Play with the numbers and figure out the best scenario for your situation and that will work for your lender.

How much should you pay your private lender? That will depend on a lot of factors. A lot of the gurus state that the going rate is 15% or so, but that is for a hard money, institutional lender and some of your private lenders might not like the 15 % so here are some ideas.

1) for the older guy that has all of his funds in bank certificates of deposit at 3 to 5 % you might offer 6% to 8%

2) for the person who is doing ok in the stock market a rate of 10% to 12 % might be more in line

3) for the savy investor lender, they may want to charge fancy things like points and interest like a rehab lender, they may not want to, they may go for a 2% interest and then a percent of the profit in the end.

So what you pay will all depend on what your lender wants and if you can't make those numbers work, don't borrow their money. They may come around to your way of thinking in the end.

Traditionally we like to work our interest rates in the following manner:

1) Short Term Flips - those houses we want to buy and sell in 6 months. We like to have a 1 year note at 8% to 10% depending on the loan amount and the risk of the deal. We could pay our lender off in 3 days and it has happened this way and other times it could take longer, we are just closing on one that took longer almost 9 months.

2) Longer Term Tenant Buyer Sales - these are houses we buy and sell rent to own to a buyer over a 5 to 10 year period. These are homes that we will need the loan in place for 5 to 10 years, we have a tenant buyer already in place to buy from us and has a lower risk. We typically pay between 6% to 8% on these again depending on the loan amount and the risk of the deal.

3) Full 30 year notes. These are houses that we could go to the bank and get a loan at 6% to 7% but because of the new rules of 4 loan rule may not be able to get a bank loan, or if we do we would need to package 4 loans up into a blanket loan that then becomes commercial and would be around 4% to 5%. On a full 30 year mortgage with a private lender, we would have to discuss rates, we have not done one of these yet.

I hope this long article - the computer says I am up to 5 pages - will help you in finding your funding through private lenders. Some other resources you may want to look at:

1. Information on our web site: http://3689.goinetusa.com/custom/index.cfm?id=148134

2. Get Alan Cowgill's FREE CD and register for his free downloads: http://3689.goinetusa.com/custom/index.cfm?id=142809

3. Prosper Lenders: http://www.prosperlenders.com/

4. The Path to Private Lending: http://www.mareinet.com/clubportal/clubdocdisplay.cfm?clubID=755&docID=7838&priv=0

5. Finding Funding for Your Deals: http://www.mareinet.com/clubportal/clubdocdisplay.cfm?clubID=755&docID=7839&priv=0

Kim Tucker

Tucker One Properties, Inc.

www.TuckerOneProperties.com

816-523-4400

Posted Friday Jun 13