Know the way out…before you get in! A good investor/business owner always has a solid exit strategy before ever getting into a deal. Ideally, you should have several exit strategies before you ever get into any deal.
Closing on a property is not really the key in real estate. Getting out profitable is! Many people have gone into foreclosure or bankruptcy in past market cycles. Those people didn’t have trouble getting into deals, but they couldn’t get out financially intact.
The following are some exit strategies for multifamily creative financing deals such as seller financing and master lease options.
This is one of my favorite exit strategies. Typically, to refinance with a traditional lender, the property must no longer be a distressed asset. This means the repairs need to be completed. If it is multifamily then the property needs to be stabilized.
Most lenders want to see 90 for 90. The occupancy needs to be over 90% for at least 90 days. Traditional lenders will consider the property in its most stable operational condition if it is 90 for 90 and therefore you will typically get you the best terms. This is the beauty of using creative financing for multifamily. The financing that you get from the seller will allow you to take over the operations of the property and make the needed adjustments to make it profitable (just where the lenders like them).
If refinancing is an exit strategy you will want to use, then there are several things you will do first. Get in touch with at least 3 lenders and get verbal approval for the refinance before you take possession of the multifamily asset using creative financing. I say “verbal” because you can’t get any other kind of approval unless you are actually in an application process. What you are trying to do is to find three lenders that like the deal and feel that they would refinance the property once you have completed all the repairs.
Show the lenders your plans for the project. Show them the purchase price and the amount of money you plan to spend on fixing it up. Show the occupancy and your plans for management. You want to have a feel for the lending market and what lenders will have an appetite for refinancing the project before you get into a multifamily creative financing contract.
One more thing to remember when planning to refinance a property is the “seasoning period.” This is the time that a traditional lender is going to want to see you own the property for. Ask about this when you first contact the lenders you plan to refinance with. You will want to make sure the length (term) of the creative financing agreement gives you ample time to season the ownership so that your transition into traditional lending will be seamless.
Refinancing in Action
In late 2008 to early 2009 I bought 7 houses with money I borrowed from a private lender. I had been buying houses with the backing of this private money for a while. I would close on several houses and once I had a pack of them, I would refinance with my local bank. It was going great until the credit market crashed. The only problem was that it crashed while I had the 7 houses paid for with private money. I had planned on quickly refinancing, but it didn’t happen. I went past my loan due date and could not pay back the lender. I was in a foreclosure situation.
The lender was good to me and didn’t foreclose. He did, however, charge me a small fortune to continue the loan! Many months later and a ton of high interest payments later, I qualified for bank financing and paid the private lender back. This is why you need to know your exit strategy going in. If refinancing is your preference, then get to know your bankers before you close with creative financing. This will increase the chances of a successful exit and keep you from making the same mistake I made.
Flip or Wholesale Multifamily Using Creative Financing
Creative financing such as seller financing or master lease options are great tools for people who plan to flip or wholesale properties. If you can secure a great price for a property and control it with some form of creative financing, then you have bought yourself some time to go out and find a buyer. Be sure to include any of your down payment money and rehab costs in the price of the loan but don’t get too greedy. Being greedy is one of the most expensive habits you can have.
If you are trying to make some quick cash by selling a property you just took control of, then you will want to leave some value in the deal for the next person. Keep in mind that they may need to qualify for a loan to be able to purchase it from you. They will want to feel that they are getting a good deal too. They will also have to deal with the same lending parameters and time frames you would, so allow for this in the terms that the seller gives you when you first set up your creative financing agreement.
Tip: The most successful wholesalers and flippers I have ever known were great at what they did because they had an exceptionally large list of buyers before they went into a deal. You should always be building your list of buyers. That way when you get a deal under a creative financing agreement you can quickly call your list of buyers and sell for some fast cash!
Assigning a Multifamily Master Lease Option Contract
If you are doing a master lease option, then you have a tradable item. A master lease can be assigned to someone else if your attorney sets the document up correctly. A person would buy a master lease from you to collect the income stream that the property would create. Keep this in mind when you originally set up the agreement.
You can also sell the option to purchase if you have kept the documents separate. You can keep the master lease that would allow you to control the property and sell the option to purchase to someone else. This would give them the right to purchase the property for the price you previously negotiated.
The master lease option is a great addition to a multifamily wholesaling strategy. Wholesaling is when you put a property under contract and then assign the contract to another buyer for a fee. The point of wholesaling is that you control the property with a contract for a short amount of time while you find a buyer to purchase that control from you for a fee.
A master lease option assignment is not much different and can follow a similar strategy. Once you take control of a multifamily property with a master lease option, you will then have time to market the property and find a buyer. You can draft your contract to be assignable. If the seller agrees to let the contract be assignable, then you could sell your option interest to someone else for a lump sum of cash. Have your attorney draft the agreement to be assignable.
Hold and Operate
This is a great long-term exit strategy. If you can get creative financing for long enough to hold and operate, great! If not, then refinance the deal and operate it under the new financing.
I mentioned talking to lenders before you close on a multifamily asset with creative financing. Here is another reason to do that. If you know the general terms in which you would refinance the deal before you take control, then you know what terms and price to set up with your creative financing offer. Traditional lending should have a longer term and less interest than creative financing. Once you get the loan in place, you can now hold and operate the property even more profitably than before.
Regardless of what your long-term exit strategy is, if you plan to hold and operate the property for any length of time make sure the term of any loan you will get will allow you to cash flow. As mentioned in the beginning of this chapter, whatever exit strategy you plan to employ, know it before you get into the deal.
For more information on how to use creative financing for multifamily just go to my site www.realestateraw.com.
Best of luck!
Bill Ham
