Financing Your First Real Estate Deal: How to Pitch Your New Business to Banks
Would you lend to two recent college graduates who formed a partnership to invest in real estate, with little starting capital, and no business or real estate background? Just a few short years ago I was one of those college grads, eager to get my real estate investing company off the ground, and as you can imagine, securing financing to purchase our first investment property was a major hurdle. The housing collapse was still fresh on the minds of lenders and defaults and foreclosures were happening at unprecedented rates. Banks around the world tightened lending requirements, making borrowing difficult even for some experienced investors…so what about us?
In our eyes we were low risk. We both had secure, well-paying jobs, a well-thought out business plan, very little debt and good credit scores. The bankers did not see it quite the same. They saw two unproven kids with brand new jobs that might not last, short credit histories and wide eyes. For some reason “trust us” just wasn’t cutting it.
How we saw ourselves (Picture – well established, well dressed business people)
How the bank saw us (Picture – kids running a lemonade stand)
We had to convince the banks we were different, not two people who would be in and out of the business in 6 months; we were there for the long haul and by lending to us now, they were setting themselves up for more business later. So, off we went to formulate a plan of attack, in search of how to most effectively state our case to the banks.
Here are eight steps to pitch your business to banks:
1) Local and community banks are where it is at! The success rate for others in our situation was much higher with smaller banks versus the giants, so this is where we focused our efforts.
2) Bring skin in the game. The term “skin in the game” was coined by the Oracle of Omaha, Warren Buffet. He used it to describe insiders using their own money to buy stocks in companies they are running, thus gaining the confidence of outside investors. It makes sense that a lender expects the borrower to show a vote of confidence in their abilities and provide reserves in case of a bad deal.
3) Present a specific deal. While presenting a business plan shows long-range planning and intent, it does not showcase your ability to find a good deal, estimate renovation costs or make a profit, but bringing a potential deal to serve as an example does. We found a property we were actually looking to buy and created a report, complete with comparable sales, estimated renovation costs and projected returns. Lenders are far more impressed with the details of a specific than a general plan.
4) Be prepared to provide a personal guarantee if you are purchasing with a business entity (LLC, Corp, etc.). It is better if you go ahead and accept it; if you want to borrow you will likely be personally guaranteeing the loan.
5) Bring a partner. If you are still unable to obtain financing due to lack of starting capital, less than stellar personal finances or inexperience, seek a partner. The bank will now consider two incomes, two personal guarantees, additional reserves and less risk, increasing your odds. I realize this is not as simple as it seems and is probably deserving of its own article.
6) Be confident.Having spent hundreds of hours learning about real estate investing, setting goals and planning our future we were confident that we would succeed, but convincing the banks was important. The best way to grow confidence in your presentation is through experience. After a few attempts you learn what questions will be asked and how to answer them, so you should be able to speak clearly and confidently, erasing any doubts about your inexperience.
7) Look the part. It might seem shallow but lenders will likely consider everything possible before lending to you, including how you look and act. Showing up in an Armani suit might be a little excessive but you should look professional; if you don’t take care of yourself why would you take care of a property?
8) Succeed! Your first several properties are critical to your ability to borrow in the future. If you execute your plan and obtain success, the bank will be asking you when you will be borrowing again.
Simple enough, right? While these worked for us they may not work for everyone. Every market and every lender is different, and every borrower faces different circumstances and various obstacles. For some to-be investors, financing through a traditional bank is simply not an option, but do not give up. If you find yourself unable to borrow through a bank, consider other options; look into private money (family, friends) and hard money lenders. Both options come with positives and negatives and require a rock solid understanding to avoid major miscues. If those options are not good ones, go back to the drawing board. Research real estate investment strategies that require less start-up capital, take time to focus on your personal finances (repair credit, pay off debts, increase income) and focus on your real estate education, so when you are able to acquire financing you are prepared to conquer your first deal.
Photo: Carsten Linke