BiggerPockets

There are a number of seasoned investors on this thread, so I'd like to take advantage of that and post a deal I'm working on--in fact, using Charles Best's "Down Payment Assistance" strategy.

The property is 70% occupied and current rents are slightly below market. As such, this is a "value added" buy.

Let's say the appraised value is $3,350,000.

I purchase the property for $3,350,000, for which I need 20% down.

New loan amount is 3350000 x .80 = 2680000.

From 2680000 new loan proceeds, the seller is paid his asking price of 2475000, leaving 205000.

I pay my Down Payment Assistance equity partner 15% of the required down payment (670000 x .15) = 100500 up front.

I keep the remainder for reserves (205000 - 100500) = 104500.

The monthly payment is 2680000 x 6.5 = 16939 (fully amortized).

Plus monthly interest only payment on borrowed down payment (670000 x .8 = 4467).

Total debt service = 16939 (1st) + 4467 (2nd) = 21406

Total monthly actual rents = 39340. A rough estimate of monthly Net Operating Income would be 50% of monthly actual rents = 19670

Net Operating Income (19670) minus total debt service (21406) = 1736 (negative; use reserves for this)

Once the building is optimized (95% occupancy), break even is achieved and valuators (cap rate, NOI) improve. Then I cash out refinance at 12 months with new 80% loan and repay my equity partner his 670000. I must make sure that the new appraised value will be enough to repay the 670000.

Does this make sense or do I need more discount to fair market value so that I at least break even before I add value by maximizing occupancy? The building has recently been fully rehabbed, so there will be no start-up costs for me.

Caitlin-
I LIKE this deal!! If all your #'s are accurate as to rents, vacncy, appraised value etc. Not having all the particulars, I have to make a couple assumptions.
1. The property has a 75/25 improvement to land ratio.
2. Your buyer is a successful individual paying income taxes.
This would be one of my typical investor/partners.
Your annual negative CURRENTLY would be approx 20K. You'd have 75% of your acquisition as depreciable. Approx. 1.8 mil. 27 and 1/2 years would give you 65K of writeoff. Your investor would only need to be in the 31% tax bracket to "break even" on the negative cash flow. He'd save it all in taxes.
The ownership and increased occupancy would give you principal reduction, future cash flow(maybe) , equity buildup and additional tax benefits for 2nd, 3rd and all years thereafter. PLUS, any net proceeds from your refi would be tax free money and you could buy something else.
All this is done with little or NO money of your own!! Whatever your return would be, if you have none of your own money invested, the # would be infitesimal.
If you're nervous about this deal, just offer it out and take a finders fee. I'd be first in line!! Good luck.

Plus monthly interest only payment on borrowed down payment (670000 x .8 = 4467)

I though the DPA had to be returned right after closing. Its a loan for a few days, not long term.

The total amount in is the two loans ($2,680K + $670K = 3,350K). You have closing costs around $67K, plus the DPA of $670K, plus the DPA fee of $100K (rounding). That leaves proceeds to the seller of $2,513K. After the borrower takes his $2,475K you're left with $38K.

Maybe you're not talking about the same kind of DPA we've been discussing, but an actual partner who would stick around.

But, your payment is only the payment on the first loan. I think you calculated that payment on an IO basis. Can you really find such a loan? At 7% for 20 years, I calculate your payment at $20,778/month.

I seriously doubt any investor who would have the kind of money you're talking about to kick in would be able to take advantage of the passive loss. Unless you're a real estate professional (750 hours a year, and more than half of all hours) you're limited to $25K and must have AGI under $100K. If the down payment is structured as a loan, that investor wouldn't be able to take any of the passive loss, period.

Besides, you're not talking about selling it anyway. You want to refi and keep it.

I'm not sure how many units this is. So, I'll guess 100. And I'll guess you want to eventually have this make money, even if it doesn't right now. And you want to have none of your own money into it. I'll use 56200 for scheduled rent (100% occupancy, since as Mike points out, reasonable vacancy's included in the 50% for expenses.) Again using 7% for 20 years as the long term loan. If you keep that loan under $2.33 mil, you'll make $10K/month. Even at $2.68M, you should still make $7500/month, which might be good enough.

You're really, really counting on getting the occupancy up. But if you could, and you can sustain it (about $1100/month, by my calculation) this looks reasonable to me.

You'll really have to look at expenses, though. I've seen APODs on similar buildings with similar occupancy. I've notice a trend of very high management expenses to go along with the low occupancy. Makes me suspect the current managers are both skimming the take by overcharging the owner and letting their friends live there for cheap rent under the table. A management housecleaning is almost certainly the first order of business with the low occupancy.

Caitlin,
I see two primary risks with your deal. First, your entire deal hinges on the property appraising for 3.35M and with the current vacancies your appraisal will likely suffer. Commercial property values are largely driven by cashflow so if your property isn't fully rented then your appraisal will be lowered by a relative amount. Second, you are also banking on being able to do a cash-out refi in 12 months. That sounds risky to me unless you have a lender willing to bend some rules for you. I am not an expert on these things but my lenders are nervous and not sticking their necks out.

If you can be sure to deal with those two uncertainties then I like the deal. You should have significant upside in terms of property values (by optimizing rents) and paying down principal. But make no mistake, it's definitely risky.

Mike,
You're confusing me here. How can she keep the loan amount to $2.68 million when she's paying $3.35 million for the property, unless you're suggesting that she buy the property at a discount.

She says the purchase price is $2,475,000. I still like the basics of the deal. There are questions about the refi possibility.

I'm still here and still interested!!

Its a commercial loan, not residential, so the RESPA rules don't apply. Or so I've been told.

Caitlyn was indeed talking like she had two loans for a total of $3.35 ish. Its a bad deal at that price. But as I understood the down payment assistance, its short term loan. She ends up only paying the 15% of the DPA.

But, maybe I misunderstand how it works.

Here's the thread about down payment assistance

Caitlyn,

Do you have any experience operating rentals? Is this property in your local area? Is this DPA scheme being disclosed to the bank? In any case, I would have a GOOD lawyer review this DPA scheme to be sure that it's legal. This is a big enough deal that it could be a huge problem if this is not legal. If it is legal, why not have the seller kick in the down payment and cut out the middle man with the $100,500 fee?

Mike

I'm still wondering if this arrangement is being disclosed to the lender. I'd also like to see ANY EVIDENCE that telling the lender that the purchase is $3.35 Million when it is really signifcantly lower, is not fraud (commercial loan or not). I'm betting that providing false information to a lender to obtain a loan is fraud, regardless of whether the loan is commercial or residential.

Mike

Jon wrote: So, the $3,299,100 doesn't have to come out of the $2.68M loan, but the total of $3.35.

The lender isn't lending $3.35. The difference between the appraised value and the loan amount is equity that isn't realized unless/until I sell.

*scribble* *calculate* *scribble* *calculate*

Thank you all for helping me think.