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How to buy a house with no money down and minimal risk!

Posted on Monday, June 02, 2014

I remember one of the first rentals I ever came across early in my investing career.It was a 4 unit apartment building in a “challenged” neighborhood of Raleigh NC.I obtained a 30 year, fully amortizing, fixed mortgage, at a reasonable interest rate.My total PITI was $1350 per month and I was able to rent each unit at about $500 per month.I had budgeted for vacancy, repairs, and delinquency accordingly.The total cash flow worked out to be about $450 per month.The numbers on this property were phenomenal.

As the years went on the performance of this property began to deteriorate with the economy.Vacancy escalated and rents declined as unemployment levels increased.It wasn’t long before I had to put this property on the market just to get rid of it.

This brings us back to our original question:How do you find a property with cash flow, appreciation, tax benefits, amortization and minimal risk?An owner of a beautiful 4bd 3ba home called me off one of my Sell Your House Fast ads.The seller had tried contacting realty companies in Raleigh NC but no one was able to help them sell their home fast enough.They needed to move out of state because of medical issues and they needed money for moving costs.Another investor had offered them cash for their home but the offer wasn’t enough to satisfy the mortgage.When I met with them we went over the numbers and I had suggested a lease with an option to buy.The numbers looked like this:

$240,000 Fair Market Value

$1350 Mortgage Payment

$0 Repairs

I was able to lease this home for 3 years at $1350 per month with an option to buy at $240k.I then sub-leased the property for $1650 per month and sold the tenant buyer an option to buy the property for $5,000 at a $250,000 strike price.This means $300 a month in cash flow for a property that was built 2 years ago—almost no repairs.Also, I collect $10,000 at the end of the option period when the tenant buyer buys the house.By the way what kind of a down payment did I make?Zero!I did give the seller some cash as incentive to do this deal but I paid it out of the $5,000 option money if and when the option money was received.

Let’s look at these 2 examples more carefully.With a 30 year fixed mortgage I am on the hook for PITI payments for the next 30 years.What happens in the case of default by the tenant?I still have to make the mortgage payment and pay all holding costs: HOA dues, trash collection, common area utilities, etc.I also have to pay to “turn” the apartment into rent ready condition after move out.I found myself constantly turning apartments, spraying for pests, and dealing with “professional tenants”.

Why is the sandwich lease in the above example so great?If things go awry I have a buyout option already inserted in the lease which means I can buy out of my lease with the seller for any reason or no reason with 30 days’ notice and 1 months’ rent termination fee.This eliminates a ton of risk from the equation.In the event of default by the tenant buyer I can either buy-out of my lease with the seller or re-lease the property and sell another option to buy.Try getting that from the bank!


Comments (2)

  1. Tiny_1399714214-avatar-drun

    Great example Michael. What type of clauses do you have in your agreements to handle house maintenance and/or major house damage caused by tenants?


  2. Tiny_1404905591-avatar-michael_otranto

    I have a clause written in there where the tenant is responsible for the first $250 in repairs. I usually offer some form of compensation for this. For example, below market rent or discounted purchase price.


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