Hi All
This is my first post so if I make a fool of myself you will understand.
I need a bit of advice on some thing I tried today and found myself short of an answer. Maybe someone with more experience can tell me what I did wrong.
After reading 0 130 properties in 3.5 years, buying ‘buyer beware’ and spending most of my free time reading posts I thought property investing is my cup of tea. I learned as much as I could about properties in my area put in heaps of below price offers got heaps of no your an idiot replys from RE agents until I finally found a motivated seller who accepted my offer. This of course got me even more excited and wanting to do more. The problem was I only had enough deposit etc for 1 property. So I decided to get a bit creative. Heres what I did.
I rocked up to a property that I had been tacking for some time I had made offers to buy twice but was rejected. I noticed the house was pulled from the market and an ad appeared in the ‘to rent’ section for the house. I went around to an open house he had today for perspective renters. After a bit of talking I found he withdrew the property because he could not get near the price he wanted which was $260000. I had figured out before that this place was only worth $225000 max, I had offered below this to him twice before, but he wanted at least $240000. I asked the guy why not L/O it to me on 5 year term or I could find him a buyer on a L/O and get him a better rental income 20 to 25% more than he would be getting plus the $260000 he was asking for the property: of course I would also make some money. I told him I would pay the rent money he wanted plus a bit extra for the option and kind of explained how it might all work. He said why would he do that as the property could go up 20% in value in 5 years and he would miss out on the capital growth. I never thought of that and I did not have an answer for him. Thinking about it why would anyone do that and give me a L/O, although I know it has been done before by other people I have read about? Maybe I missed something in the translation from the page to my brain? Does anyone have an answer?
By the way this person owned the house and 14 others all buy and holds, he had no idea anything else was out there.
Kerwyn.[blink]While I’m no expert on L/O, it would seem from some of the American books I’ve read that your vendor needs to be motivated (desperate).
From your Vendor’s point of view and looking at opportunity cost if he thinks prices are going up 20% in 5 years, then on the figures you gave he needs to make about $50,000 on the option money you ae paying to be in front.
You also say he has 14 other properties. Hard to see much motivation for selling.
With 14 other properties, it doesn’t seem like he has any need to know about other alternatives, particularly as his strategy is buy and hold. L/O or wraps might work for some people, other people might prefer adding value to their property by renovation or increasing rents or both.
crj
Firstly, congrats on your first purchase!
I will give you my understanding of why lease options are of benifit to the investor and why they are not simply an escape for someone who is desparate to sell. Mind you I’ve never done one myself…
I guess it depends on your style of investing, are you after +CF or CG? If you are lucky enough to have an investment portfolio I guess you need to decide on how and where to balance the CF and CG aspects of it.
As I recall (and I didn’t take as much notice as I should have) when the price of the property is negotiated for a L/O, it is usually above the current market value (but not usually enough to cover the CG that will occur – that is one of the bonuses to the purchasor). This partly takes care of the CG issue.
The instant bonus to the vendor is the higher than market value weekly rental payments that are made by the purchasor. In this way, the vendor is able to create a +CF investment that may be -CF under normal rental conditions.
At the end of the agreement, the vendor still gets paid a fair price if the purchasor takes the option to buy. This is on top of the higher weekly rentals that they have been collecting – a sort of compensation for the potential CG they may have sacrificed. Either way the house is still sold for more than the original purchase cost and while it was owned it was providing +CF.
If the purchasor decides not to take the option to buy then the vendor has simply been collecting higher than market value rent (ie +CF) for the agreed term of the option. Then, at the end of the agreed term the vendor can then do whatever they want with the property (sell, rent, wrap or another L/O). They also hold 100% of any CG.
Although I like the concept of L/O’s, I haven’t taken any action to do one myself. I can see how it works in theory. In practice I do not understand the legal, financial and insurance aspects so it scares me a bit and this is my personal barrier. Guess I should get out of my comfort zone and go find out how to take care of these things and make L/O’s work for me. I’ve sort of sold myself on the idea by trying to explain it to you.
I also think that there is a chapter in 0 to 130 about L/O’s but I admit that it’s a while since I’ve picked the book up.
Cheers
SonjaHi Kerwyn
I’ve done 3 lease options myself – selling the option.
I did it because:
– You collect an upfront option fee
– You get much higher rent
– You get the tenant to pay for all outgoings and repairs
– You get a small capital gain when the tenants cash you out.
– There is a fairly high chance the tenants will move out and not take up their option, giving you all the above plus the capital gain.In your example, you could have structured your option agreement a bit differently to get his attention. eg. a 3 year option with a 50% share of any capital gain over $260,000, or something like that.
Terryw
Discover Home Loans
North Sydney
[email protected]Terryw | Structuring Lawyers Pty Ltd / Loan Structuring Pty Ltd
http://www.Structuring.com.au
Email MeLawyer, Mortgage Broker and Tax Advisor (Sydney based but advising Aust wide) http://www.Structuring.com.au
Thanks everyone for the answers.
What I was going to do with the L/O if he give it to me was on sell it to another buyer at a higher rate. The other buyer would have the CG so it would be hard for me to share it with the owner. What I needed was some kind of an incentive to offer the owner so he took up my suggestion. I think he was a bit optimistic expecting a 20% rise in CG in the next 5 years. Looking at the trend from 91 to just before the latest boom 2000 house prices had retreated in 95 by about 3 to 5% before reaching 91 prices again around 99, the lower end housing anyway. I think he was just the wrong person, he did tell me he needed 1.3 million that he had to pay back money that he owed.
Still I would like to know what I could offer a owner that would make it attractive for them so they would consider giving me a L/O on a property if I came across a similar situation again.
Kerwyn
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