Sandwich Lease Option - good/bad idea?

15 Replies

Hello BP, officially my first question here.
I've been hearing lately that "sandwich LO" is not a good idea. Is it true? if so, why is that? Is there bigger rist if the tenant decides to stop paying, so then you take over the payments?
Thanks in advance

Whether or not a sandwich lease is a good idea depends upon a number of factors:
1) the numbers in the deal, meaning the risk to reward ratio;
2) the investors mindset;
3) the strength and validity of the agreeements being used.

Anton, you may have read something I posted, I'm about the only one who speaks to the downsides.

Michael is right concerning the initial concerns.

Lease options and sandwich lease options are pretty easy on the surface, easy to understand, easy to write, no real closing issues, no loans involved, and tons of mentors spurring these deals for profits.

The trouble usually comes after you do these deals, collecting amounts, properly allowing credits so that it meets future financing requirements, your end buyers, if not qualified to get financing at the time the deal was made may require lots of hand holding and coaching to get them qualified later on to buy.

To do these deals correctly you need to understand real estate financing, the different programs that might work, what borrower and property requirements are and how to qualify your end buyer in meeting future requirements. This is the tuff part, not selling the deal.

Initially the risks can be minimal, it's later on when the deal falls apart that your are exposed to issues. The easiest way to address these issues is to take that end buyer to a mortgage originator and have them underwrite the deal thereby passing much of the liability on to that mortgage originator. That still doesn't mean you don't need to be aware of financing issues and the coaching aspects in some cases and if you screw up in the coaching aspects, you take on additional liabilities.

Consider that investors do these deals as a scam, putting unqualified buyers in, taking money down, then taking the property back and reapeating the it again. While it was common say ten years ago, things have changed on the legal front. We now need to comply with the SAFE Act which can certainly apply to L/Os. We also have the Consumer Federal Protection Board, a new policing agency and rulings cracking down on predatory investor/lenders. The risks of getting caught have gone way up in my opinion and now there are teeth in laws to apply to those who fail to act prudently.

So, while the L/O sounds like a great way to start out, it's not really a beginner topic due to the possible activities that you may need to address over the term of the deal. The sandwhich lease-option can be a real pain with marginal buyers and they simply may not be as profitable as you initially think after dealing with issues over a 3 year contract or longer, it get's wose if you fail too. :)

As @Bill Gulley knows what he is talking about re: the CFPB and SAFE Act, when you are in the lease option arena of real estate investing, you need 2 things to do it well.

One is a licensed mortgage originator "that is not you" to look at the 1003 app and give a professional opinion as to lend-abilty.

Two is a Credit Improvement specialist to assist the tenant buyer in improving their FICO score.

I like an easy going seller that understands patience with the success of the process to get the loan, and I also look at the coachabilty of the tenant buyer, willing to be coachable as to debt to earnings and paying down debt to get a mortgage.

I beleive this is harder than wholesaling in some ways, as you are coaching-teaching sellers and former renters how lease options and mortgage orgination works.

But if you are in a RE location where there are not alot of wholesaling opportunities, buying on terms and renting out or selling on lease option is viable alternative, as long as you follow the new rules.

See http://www.realtor.org/topics/seller-financing/the-safe-act for SAFE Act Final Rule: Seller Financing and REOs

Hey Anton:
It seems I say this every time someone posts about lease options so I'll say it again. Lease Options pose no greater risk than any other real estate deal out there. In my 20 years doing them I have found the risk level to be minimal and that's because of three reasons. I operate under full disclosure to all parties involved. I know what I'm doing and I never make promises I can't keep. So let's take a look at your question. If you go to the bank and borrow the money and buy the house fix it up and rent it out and the renter stops paying or leaves or whatever what do you do? You find another tenant and keep moving forward. Guess what, a lease option works the same way. If your tenant takes off or stops paying you get rid of him just like in the ownership routine and get another tenant buyer. How do you think I know that?

Here's a real life example for you Anton. I lease optioned a house outside of Philly and put it under contract to 4 different tenant/buyers until it finally closed. The first buyer got transferred for work, the second decided to move to Florida, the third got divorced and the fourth bought the place. Sounds like a hassle you say, not so, tenant buyers are easy to find and I got to collect the option consideration 4 separate times on the same house. The seller didn't care what went on as long as I got the place sold and because I practice full disclosure the tenant/buyers new and signed off on losing their option consideration.

It's like I said Anton, know what you're doing, practice full disclosure and don't make promises you can't keep and you'll be fine.
Best,
Joe

Some seem to think you can just give a disclosure that says basically, "I'm going to screw you" and that get's them out of any problems in screwing someone, not even near true.

There are "life events" death, divorce, bankruptcy, incapacitation, illness, job transfers and other events beyond the control of either party to a deal. The ethical way to address these issues is to allow that buyer to sell, in such circumstances where they are already at some disadvantage and facilitate the new deal allowing them to retain the equity they earned. But there are some who simply take adavntage of such events, keep thier money and say bye bye then rinse and repeat. If you were the buyer, who would you rather deal with? :)

I know that @Michael Carbonare and @Brian Gibbons agree with me on this, and although I don't personally know Joseph Bodek , I would think he's certainly done enough LO's that he would agree with me on this...
I never recommend someone with no experience in real estate or clue about the market in the area or how the numbers really work to try to start off in real estate with a sandwich lease option.
I always recommend to people that I work with to have a number of lease option assignments under the belt first.
Every angle in RE has a certain risk, the question is how to start off in RE, and how do you mitigate those risks?
If you are looking at lease options, the lease option assignment is the easiest to understand and execute, and the easiest one to structure to mitigate risks.
Once you're comfy with the LO assignment, and what to look for on the applications, how the numbers work etc., then look at SLO's.

Originally posted by John Jackson:
I know that Michael Carbonare and Brian Gibbons agree with me on this, and although I don't personally know Joseph Bodek , I would think he's certainly done enough LO's that he would agree with me on this...
I never recommend someone with no experience in real estate or clue about the market in the area or how the numbers really work to try to start off in real estate with a sandwich lease option.
I always recommend to people that I work with to have a number of lease option assignments under the belt first.
Every angle in RE has a certain risk, the question is how to start off in RE, and how do you mitigate those risks?
If you are looking at lease options, the lease option assignment is the easiest to understand and execute, and the easiest one to structure to mitigate risks.
Once you're comfy with the LO assignment, and what to look for on the applications, how the numbers work etc., then look at SLO's.

Well John, I have no idea why you'd think I wouldn't agree with that as well, as I certainly do! :)

Well I agree with @John Jackson and @Bill Gulley .

I think its a mistake to think SLOs are easy in this new SAFE Act and CFPB arena.

Not easy does not mean impossible or dangerous, just be informed of the risks, and treat everyone well, especially the TBer (coaching before they go in the property with a licensed Mortgage Broker with credit and FICO).

John Jackson has a great FICO coach as do I that also does mortgage origination. It is a CRITICAL piece of the puzzle to doing LOA - COOPs and SLOs.