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The Idea May Sound Crazy – But Is It?

by Clay Huber on March 22, 2013 · 4 comments

  
Crazy

The saying is pretty popular, “Never judge a book by it’s cover.”

I personally had to apply this bit of wisdom to a real estate investment project not too long ago. I already wrote about this project in a previous BiggerPockets article which you can read here, but that article only focused on the plumbing problem aspect of the journey.

To summarize the situation quickly (for more details, read the other article in the link above), my company purchased a property from a wholesaler and our exit strategy was to sell the home on land contract (owner financing, contract-for-deed, installment sale). Because the the owner financing market is so hot in my area, the wholesaler who was selling us the property had also already found a buyer for the property. The buyer needed to move ASAP, so there wasn’t any time to get utilities and such turned on. This lead to the big catch, which was this…

The buyer wanted all plumbing, electrical, furnace, and hot water heater guaranteed to work for two weeks after all utilities had been turned on (the house was winterized).

Eeeek! Guarantees without ever having turned anything on in the house? Allowing such an unknown variable to creep into the equation? This would be crazy for me to accept… right? But is it really ‘that’ crazy?

Let’s go through my thought process…

The Numbers of the Real Estate Deal

I do a lot of business with this wholesaler, and there is a reason for it… he brings me good deals! This property however was a mess-up on the bank’s part. I say/think that because it was priced so low to begin with for the neighborhood it is in. I don’t know if the listing agent just didn’t do their research or what, but bottom line, the price that the wholesaler picked it up for, allowed them to make a profit while selling to me at a great discount relative to the after-repair-value (ARV) of other homes in the immediate area.

The purchase price and ARV are only two of the three main variables as I still needed to figure out the rehab cost. The buyers were willing to buy it ‘As Is’ in the sense of they were okay with the cosmetic type things; however, they weren’t willing to buy it ‘As Is’ when it came to the “big dawg” items.

After giving things the “eyeball test”, they didn’t look too bad. I plugged some numbers into my spreadsheet of “worst case” and low and behold, although the deal wasn’t quite as attractive originally thought, it still was by no means a terrible deal where I would be losing money.

Hmmmm… maybe not so crazy.

Lesson to Learn: For you veteran real estate investors, you already know this, but this business is won and lost on the spreadsheets. Just because an idea/proposal may seem crazy on the surface, the numbers may still allow for it to work. While I’m not suggesting “fudging/forcing” the numbers to work, I am certainly proposing you at least run some worst case numbers. Ya never know, maybe things won’t come out at bad as the crazy idea seems.

The Land Contract Buyer of the Real Estate Deal

The numbers passed the stress-test on my spreadsheet; however, from a potential time/hassle factor perspective, would it still be worth taking the risk? This lead me to taking a look at the buyer.

I am not going to go into the details of their financial situation, but I will say this, they were solid buyers, with good credit who could easily afford what the monthly mortgage payment would be. (Note: In a land contract, they are not “renting-to-own”. They are making literal mortgage payments to you)

In a nutshell, they were a goldmine in terms of people you would like for a land contract home. From both a personal and financial perspective, they were quality people I wanted to have in my property.

Hmmmm… maybe not so crazy.

Lesson to Learn: Whether you are doing owner financing or renting out the property and being a landlord, you should always consider what kind of customers/tenants the property will attract. For me, I want as few headaches as possible, and when monthly payments show up on time and the property isn’t being destroyed, that is a huge “headache avoider”  so I always I take into consideration. Same goes for you flippers. If the end product in the neighborhood most properties attract are renters, are you sure you want to be pouring a ton of money into a flip? Point being, never look at the numbers alone. Make sure you understand what sort of people you will attract for your end product.

The Relationships Influencing the Real Estate Deal

Finally I had to consider the relationships I had that may need to come into play in a worst case scenario. Specifically, what kind of relationships did I have with contractors? These are the instances where treating contractors right really begins to pay off. I knew that if there was a major disaster, I would have people I could trust would get the job done and not waste my time with games or nickel and diming me to each and every little repair needed.

I work with a great plumber, I have a couple quality electricians, and have used some solid HVAC people. I knew that from a hassle perspective, if things went bonkers, I could call on people and not need to be a babysitter.

Hmmmm… maybe not so crazy.

Lesson to Learn: It starts now! You may have never done a deal yet, but it doesn’t matter. Start building and (more importantly) maintaining relationships. Not just with contractors, but everyone in your real estate sphere of influence. When you try and build a relationship, one of two things is going to happen. They are either going to A) reciprocate the relationship back to you which is what you want, or B) they will not and that’ll be evidence to you to just cross them off your list and move on. It’s never too early to begin to figure out who is worth your time, and who the “I-need-a-babysitter” people are.

Final Thoughts and Decision for the Real Estate Deal

Uggggh…offering a two week guarantee on the major components of a house without any utilities on? Am I crazy?!?! Then again, considering these three things…

  1. Property was being sold to me at a great price, where, even with worst case type numbers, was still solid (although admittedly not nearly as good as it could be).
  2. The interested party was as solid as it gets from the land contract perspective. While it is always possible, the odds of needing to chase down payments did not seem very likely at all.
  3. The only time/hassle factor I would have in a worst case situation would be picking up the phone and calling whomever needed to be called contractor wise. I knew I could trust the people on my list.

After considering those three points, the deal really didn’t seem too crazy. Did I take a risk? Absolutely. Was it a calculated risk? ABSOLUTELY!

Besides the plumbing issues that occurred, it was a risk that I’m glad I took. Besides the great deal it turned out to be, it was a good lesson for me too.

Summary Lesson to Learn: Never scoff at an idea or proposal just because it seems crazy. Look at from various perspectives, and THEN make the judgement on its crazyness level. Odds are, it probably is a crazy/bad idea, but you never know. It’s worth spending some time on crunching some numbers and factoring in other variables. You just never know…

Photo: Nina Matthews Photography

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{ 4 comments… read them below or add one }

Brandon Turner March 22, 2013 at 9:44 am

Great article, Clay! I know there have been times people have thought I’ve made a crazy decision (YOU PAID HOW MUCH FOR HARD MONEY!?) But it was, as you said, calculated risk. That’s the game we are in, and if we can handle it and we’ve done our homework, I’m all for a little risk :)

Reply

Clay Huber March 22, 2013 at 9:54 am

Thanks Brandon.

I think the biggest thing to realize is, as you noted, there is a large difference in a “risk” verse a “calculated risk”.

Reply

Eric R. March 22, 2013 at 11:11 am

I’m going to add a “crazyness level” column to my spreadsheet. Thanks for the lessons!

Reply

Clay Huber March 22, 2013 at 11:13 am

Thanks for the comment Eric, and you’re welcome!

I’ll be interested to know what your scale on “crazyness level” comes out to be! ;-)

Reply

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