Hello everyone, hoping for a bit of advise here. I've connected with a Seller who has a traditional 3/2 ranch style home that is structurally fine, but is in need of total interior renovation. Seller is willing to sell the property at a price that makes sense for me to purchase, rehab and sell in a short term for a fair gain. Though I have the cash to purchase the property outright, the Seller is showing an openness to optional purchase techniques and I would rather keep as much of my cash as possible for other deals that will come up.
My though is to create a Lease/Option with the seller. Pay a minimal option fee up front. Determine and state future purchase price up front. Make monthly lease payments during the rehab period (that would be applied 100% to the purchase price if option is exercised. Obviously Seller would keep if not). Complete rehab, sell to end Buyer and satisfy the agreed upon original price with Seller in a period of 6 months, or less.
My questions, first, does this technique seem valid/correct (Have not done a Lease/Option before)? Second and more importantly, my main question/concern is that the Seller may not perform as agreed when he discovers what I am making on the deal and I would have to sue him for specific performance of the Lease/Option contract. Is this correct/possible? If so, is there some way to "Escrow" the deed during the Lease/Option period? If not, what ways would I protect myself/minimize risk that the Seller will not perform?
I am completely open to any other way of making this deal happen and value your input!
@Beau Miller I'm not sure about your local laws but in my area I would want to own this property (not lease/option) because you are going to have so much cash exposed. A total interior renovation to me would be too much cash deployed on a lease / option. I have personally done a lot of lease options on both sides of the equation. In this situation I would try to structure a purchase deal with the seller, maybe owner finance if possible, or something else where you will own the property. This gives you the control. Even if you pay all cash for the sale, you mentioned having the cash available, I think it's better than the potential uncertainty of a lease option because if the seller balks, which you mentioned could happen and you're right, it may tie this project up (and any cash you already have in it) for a long time. Just my 2 cents.
A lease doesn't give you authority to rehab it or obtain building permits or obtain materials which may be subject to lien wavers which a supplier will want nor to hire labor or contractors which would have rights to place workmen's liens. Neither does an option.
An option may not have any requirement for performance by the optionee (buyer).
If you fail to perform, you lose. A seller can have a few tricks up the sleeve to avoid the sale, consideration for the option can be an issue if it lacks significance. If you later find the seller can't perform, you'll have little recourse, may be limited only to the consideration for the option as improvements can be on you.
Look to a Sub-To (or warp) transaction or seller financing and take title so that you can operate from a position of ownership. Good luck :)
Look at it this way if you buy it you control it. If you don't buy it you don't really control it. It is still the seller's property. Yes, you could write the lease in a way that allows for a complete rehab, but the seller still may not perform as you indicated. Flipping is already a fairly risky business and you are simply adding to your risk by not buying the property. I think @Account Closed has it right, seller financing is the best way to go if you don't want to tie up all of your cash.
Thanks, @Bill G. and @JJ Pawlowski. Excellent info. Very much appreciated!
Again, great feedback everyone.
Seems my best choice is Seller Financing and close now before preforming any rehab. Assuming the Seller is agreeable Seller Financing, what should I offer (I realize anything can offered, but is there a common scenario)? The loan would be for a short period (less than a year) so should I offer money down plus an interest rate or again, since it is such a short period maybe just X percent down with Y percent due at closing (X%+Y%=100% offer price, no interest)?
Also, how do I go about preparing the Financing Docs for this? Do I have my Attorney draw them up? Can I use forms off of BiggerPockets (and have my Attorney review)? Will I need to offer both a Promissory Note and a Mortgage?
Beau, come to you price as you normally would, financing does not add value to a property. You can look at you price and discount a higher rate of interest, to the seller, interest is interest income, the principal paid will be divided between his basis and gain, paying more tax on his gains. So, you can manipulate the price and interest somewhat on a short term basis. Give yourself about 6 months to exit from the loan, by selling or refinancing. As a commercial loan, you can do a one year or 18 month balloon payment.
I absolutely advise against using notes off the internet, without you getting with an attorney, usually a title company has an attorney to draft/review notes and security agreements as needed. You may get a note at the title company, this being a short term it isn't critical that you have a 6 page promissory note!
You won't have any Dodd-Frank issues with this transaction, it's commercial.
I'd begin with 10% down, if the seller doesn't like that negotiate whatever, I wouldn't go more than 20/25% down. 10% is a common rate for seller financing, it has been lower in recent years due to the economy, 3% up avoids imputed taxes for the seller.
You might work in interest payments monthly, they would begin in the month after closing if you close before the 15th or the following month if you close after the 15th, generally. You could make I/O payments quarterly or you could make a principal payment at any time as agreed. Usually construction loans are I/O to a 6 month balloon or simply accrue to 6 month, larger loans go to a year. If the seller doesn't need payments, why go there? :)
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