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Explore the World of Real Estate Windfalls
A windfall can occur in several different ways. If you know these ways, you can be alert for them when you’re considering an income property you want to buy. The ways you can mortgage out in income real estate include:
• Buy the property at less than the amount of the long-term mortgage you can get on the property. This can happen when the appraisal value is higher than the selling price of the property. Any excess cash is yours.
• Get a second mortgage for more than the required down payment on the property from a lender different from the long-term lender. Again, the excess cash is yours to use as you choose.
• Use the rent security deposits to improve your relations with your bank to encourage them to loan you down payment money for this, or other properties you might want to buy for income purposes. You must keep the rent security deposits in an approved savings account. But you can use the money as a powerful negotiating tool with your bank.
• Negotiate to buy at a price less than the appraised value of the property so that it supports a loan that allows you to mortgage out. This often happens with motivated sellers who just want to get away from the property for any number of reasons. You can take advantage of this urge and get the property at a price that allows you to receive cash at the closing.
• Get a Purchase Money (PM) Mortgage from the seller to cover your down payment plus any other expenses you plan to have.
These expenses can include payment for your work during the time you look for, negotiate, and analyze the property and its potential income for you.
• Get an equity loan on other property you own. The amount of your equity loan should be greater than the down payment you need for the property. As before, your excess is your mortgaging out cash to use as you wish. With an equity loan you do not have to tell the lender what you need the money for. Funds from an equity loan can be used for any purpose you choose, including the down payment on other investment real estate.
• Get the first mortgage approved and then negotiate a lower sales price. The sale goes through on the approved mortgage amount, with any excess going to you.
• Get one or more property improvement loans before you take title (ownership) to the property. Use these loans for your down payment on the property you want to invest in.
• Restore a neglected property, getting a loan to cover the restoration (also called rehabilitation) based on the value of the property after the work is completed. With such financing, you can often get 25 to 33 percent more than the cost of the property plus the restoration cost. See the example below for full details.
• Develop a site with a new building on it. Again, the money you can get can be 25 to 33 percent more than your total costs!
How Mortgaging Out Can Work for You
Mortgaging out can work in many ways for you. Probably the largest amounts of cash for you can come from building or rehabbing real estate. A reader called to tell me:
Burned-Out Building Has Potential
“I bought a burned-out building which I plan to restore. I paid $1.00 for it so you really can’t call it zero cash. But it’s pretty close to zero cash! Though I’ve never restored a
Bootstrap Your Way to Your Real Estate Cash
building in the past, the lender I went to—which I found in your THREE YEAR book—recommended a local builder they approve of. If I use this builder to restore the building, I’ll have to pay $350,000 for the property the day restoration work starts. The lender will advance that, plus $400,000 in stages for the rehab work. When the job is done—in about 8 months— the lender will advance me another $100,000, based on the rental value of the building—which will be $17,500 per month, or $210,000 per year. With a Gross Rent Multiplier of 5—low for such a building—the property will be worth 5 x $210,000 = $1,050,000. So the total money advanced will be only 81 percent of the finished value of the building. This is in line with conventional lending of 75 to 80 percent of the property value. And I’ll mortgage out with $100,000 in my hand for 8 months’ work! Not bad for a beginner.” —New Jersey
Though inexperienced, this reader hit upon a perfect mortgaging out formula. This formula is based on the known facts about real estate construction and restoration, namely that:
• Labor costs rise 10 to 20 percent during building or rehabbing.
• Materials costs rise 3 to 9 percent during building or rehabbing.
• Land costs rise 5 to 10 percent during building or rehabbing.
Knowing this to be true from years of experience, lenders are willing to loan on the finished value of a project. This is where your mortgaging out cash can come from.
Use Other Rules of Real Estate for Your Mortgaging Out
There are other rules of real estate that can put money in your pocket if you prefer to deal with rental properties instead of construction or rehabs. These rules are: