timid...looking at a private money lending deal, thoughts?

Question

So I'm still poking around and looking for how to invest in RE. I haven't purchased an investment property yet, but am currently offered a private financing deal w/ a neighbor/friend.

So my neighbor a few houses down is a flipper/construction guy. That's his primary thing. He buys properties, flattens them, and builds them up into fancy 2 condos and stuff. He's got a pretty solid track record and makes nice quality houses. He's found a new project and looking to build up two 2000sf SFH's on an old lot.

So he's asking for private lending to meet the 20% down on the bank construction loan on his next project. He needs a total of ~$200k and is asking for 50-70% private financing. His father (who regularly invests w/ him) is putting in $70k and so he's asking me (and others) for $30k-$100k to round it all out.

He's offering a 25% simple interest return upon sale of the second unit. He's estimating 18-22 months to final sale/close on the second unit.

So questions and input advice here? I am certainly capable of providing this private loan to him. Any advice? I assume I can't get a junior lien on his construction loan. So I ask him to put a lien on his primary house? One of his personal rental houses? his new truck or fancy speed boat? Thoughts on the 25% simple interest? What it would effectively be if stretched out 2 years, compared to just time in the market?

Completed Projects:

• Aug 2017, purchased small house $420K, sold 2,400 sqft main home March 2019 $900K and 1,100 sqft ADU (small house) February 2019 $520K
• sold 2,400 sqft main home March 2019 $900K and 
• 1,100 sqft ADU (small house) February 2019 $520K
• April 2017 purchased lot $420K built 2 , 2,100 sqft. condos sold A unit $735K August 2018 and B unit February 2019 $750K
• built 2 , 2,100 sqft. condos 
• sold A unit $735K August 2018 
• and B unit February 2019 $750K
• March 2016, purchased property $690Ksold expanded and renovated Jan 2017 $1,832,000
• sold expanded and renovated Jan 2017 $1,832,000
• Late 2014, purchased lot mid 2013 $285K and sold new house late 2014 $932K
• and sold new house late 2014 $932K
• 2013, purchased lot for $220K built 2 separate 2000sf unitssold each in 2014 just under $600K per side
• built 2 separate 2000sf units
• sold each in 2014 just under $600K per side

• sold 2,400 sqft main home March 2019 $900K and 
• 1,100 sqft ADU (small house) February 2019 $520K

• built 2 , 2,100 sqft. condos 
• sold A unit $735K August 2018 
• and B unit February 2019 $750K

• sold expanded and renovated Jan 2017 $1,832,000

• and sold new house late 2014 $932K

• built 2 separate 2000sf units
• sold each in 2014 just under $600K per side

Rick Pozos · Answer

The last completed project was 2 years ago??

If everyone is throwing in on the down payment, would you even have a lien on the property, probably not. That is how you would secure your money on the project is a lien on the property(even if it is a 2nd or 3rd).

It seems that he is asking for an unsecured loan. I would loan my sister some non collateralized money or even a close friend(1k or 2k), but a neighbor that I dont really know?? I would probably NOT lend my sister 30k unsecured.

Jay Hinrichs · Answer

you would be surprised.. builders have over head they have a home they have kiddos etc..  its hard for most builders to amass enough equity .. many end up doing it but it takes volume and years if your just doing a few at a time I flat will guarantee all profits go to life style and his personal over head.. not to savings..

some builders do not need outside capital others do..

The risk though is for non experienced investors going into second position with no clue how to fix it if it has a water landing..

Most people that have these business usually have a partner.. one partner provides capital the other the expertise to get it done.. and then they usually split 50 50 .. this is far less than 50 50.. this is why returns on this type of funding should BE FAR higher than a simple 10 to 15% interest rate.. FAR higher.. and there should be some equity participation with a pref.. that's how I do mine..

Robert S. · Answer

@Adam L. Good day, as a contractor who gets approached quite frequently to participate in these type of loans by my own clients, please take into consideration that you need to pay taxes on your return.  So the IRS’s take should get factored into your required return.

Wayne Brooks · Answer

Assuming you got a second mtg position loan, there’s no reason it couldn’t be done, an 11-12% APRi is still not nearly enough for the risks.  If anything goes wrong, you are pretty much assured of losing your entire investment with an 80% first mtg.

Adam L. · Answer

Very good points about unsecured loans. That's what I'm worried about...this seems like he usually gets funding from family and a few other close friends on a handshake deal. I asked him what we could set up as collateral and waiting for a response.

no, it looks like he purchased property in 2017 and sold the units spring 2019.

Jay Hinrichs · Answer

this is a friends and family deal..  you either trust him or you don't.. bottom line.. and if market is not kind your probably going to lose some if not all your money..  but most likely it will be fine.. 12 % interest for this risk.. in my mind is only being done by very naïve investors or friends and family wanting to do a solid for this guy.. that's my thoughts.

The reason most lenders do not allow seconds behind their firsts is it precludes the ability to take a deed in Lui it forces senior lender to full blown foreclosure if the second wont just go away unpaid..

Jay Hinrichs · Answer

your filling the GAP between the first lender and purchase price  ergo slang for equity loans is gap funding.

25% apr is what yo need not 25% total return other wise yes time erodes your return..  I do a lot of it but at much higher returns than your talking about you need big returns to off set the risks.. also since its on such a small amount the return does not affect the operator that much .. and if they want OPM they need a partner of some sort.. most money partners want 50% of the total profit.

Jay Hinrichs · Answer

Unsecured Prom notes ARE shockingly simple  can be as little as one page with 2 or 3 paragraphs.. that's very common and acceptable and enforceable..

GAp funding is risk funding no double its relationship funding..  we do a lot of it but with folks we have known for years and in most instances we are in a position to step in.. most lenders who do this are the opposite .. at least the ones that get in trouble.. no experience and no ability to step in if needed to protect their interest.. granted the return is good.. that's the bottom end of what we would expect..

Adam L. · Answer

Hey!  Good questions. I'm not sure why he's not putting down his own cash, I just assumed that's how flippers operated with OPM.

For timelines, it looks like this is his general schedule 15+ months to do a full construction and build out, then time to sell them, then time to find the next property. It appears he's happy chugging along at this pace so that he can enjoy time with his family and just do the amount of work he needs to sustain his family.

Adam L. · Answer

Yes, it does seem like he has a solid track record and does nice work, not just a cheap flip and run.

good point about the interest. I'm concerned he is not used to people asking for detailed loan agreements. It seems like he usually just says: "I'll give you your principle + 25% when I finally sell the unit." I looked at his sample agreement and it was shockingly simple and basic. Not sure he's used to signing something about annualized interest rates or monthly payment periods.

timid...looking at a private money lending deal, thoughts?

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