Anybody who has been in or near the real estate market over the past ten years can attest to the fact that the money markets have been crazy. Crazy good for most of the time, but now we're well into a cycle where money supply will be tight, and lending standards will be much tougher.
People relatively new to the real estate industry will see this as new and different, while those of us who have been around a while will tell you that we are just dusting off old skills and techniques that we haven't had to use since the 1990s. It is time to re-establish all of the networks and processes that we used to help people buy a home without traditional financing.
The real irony in the current real housing market is that it is easier to get "free money" from the government than it is to get a loan from a bank. Unfortunately, the free money won't typically buy a complete home, so we do need a plan on how to raise the rest of the money that people need to buy a home today.
Creative Financing Enjoys A Rebirth
While many real estate professionals do not like or understand creative financing, I actually enjoy the transactions that require a little mental agility to complete. Sure, easy "deals" are fun too, but being able to help a buyer that nobody else knows how to deal with brings a lot of satisfaction to the REALTOR® that knows creative home buying techniques.
Creative financing techniques are actually critical to home sellers too. If a real estate professional can use this knowledge to increase the pool of potential buyers for a home, then the REALTOR® is adding value to the home. Less than 10% of homes sold are done without financing, so the soft costs of buying a home are just as important as the tangible aspects of the home.
The following list of creative techniques is by no means exhaustive, but it represents the minimal set of "tools" at which real estate professionals must be proficient in order to best help home buyers and home sellers today:
Lease Purchase Agreements are the simplest way to get somebody into a home (today) when they cannot get a traditional bank loan. Buyer and Seller enter into a contract and set the closing date in the future, and then execute a separate lease agreement that dictates the terms of the Buyer's use of the property prior to closing.
I have written quite a bit about lease purchase agreements in Tallahassee, and I suspect the concept is similar in every other State. While this technique can be very beneficial to both the home seller and the home buyer, there are some risks and concerns that each party should consider before pursuing a this as a solution.
Purchase Money Mortgages are often misunderstood by homeowners, and that needs to change. A purchase money mortgage (also called "Seller Financing," or "Seller Seconds") is a technique used with home buyers who do not have enough cash to fulfill the obligations by the first mortgage holder.
Basically, the buyer obtains a new first mortgage on the property and the seller acts as a second mortgage lender by helping the buyer with some or all of the down payment requirement. Rather than receive cash at closing, the seller walks away with a note secured by the property. The seller then has to wait for the period of the note to receive the total equity in the property.
Most sellers would rather have cash, but many sellers would rather have cash plus a note rather than not sell the home. Remember, our latest measurement of homeowners who failed to sell their home is at 79%, so this is a viable option to allow a home owner to move on.
Private Money Loans have really not been heavily utilized in the recent past. As conventional lenders were writing loans up to 100% with little or no documentation, this part of the real estate finance world has been grossly under-utilized. But not anymore!
Private money loans come from local investors who want to get a strong yield on their investment, while knowing that their money is safe. They work with people like me to find them properties to lend against. Notice I say "properties" to lend against as opposed to "people" to which they can lend. These investors represent an opportunity for many good borrowers who do not currently qualify for traditional bank loans.
These investors are local in nature, such as Doctors, Lawyers, business owners, and retirees. They utilize a safe formula that allows them to continually reap safe returns on their money in the double-digits. They make the cost of money higher than traditional lenders, but they make it available to a larger group of people.
Hard Money Loans are similar to private money loans, but these come from larger groups of investors and work in a manner that is a hybrid between private money lenders and traditional bankers. The loan application process is more formal than with private money lenders, but much faster and easier than it is with traditional banks.
Hard money loans, like private money loans, bring more opportunity to the market. Higher interest rates make them a poor solution for somebody with perfect credit, but a great solution for those that cannot obtain a traditional bank loan.
Bridge Financing is a short term loan that allows somebody to buy today though permanent financing won't be available for a certain known term. We used to see bridge financing on a regular basis, but the ease and multitude of loan programs available in the recent past made these types of programs unnecessary.
Recently, I saw a good example of a bridge financing opportunity when we were help somebody relocate to Tallahassee from another market area. This home buyer was going to move here in the summer, but had found a great buy on a short sale. The home buyer was approved for a VA loan, but the loan requires the borrower to immediately occupy the home after purchase. A bridge loan would allow the buyer to get the excellent purchase price and still close on the VA loan later this summer.
Multiple Collateral Loans can be used when the buyer does not have enough cash for the down payment of the loan. By securing the loan with more assets, the lender's risk is reduced. Typically, these types of loans require an existing relationship with the bank, or are used in conjunction with private money loans or hard money loans.
We were helping a buyer purchase a $300,000 home for sale in Tallahassee and our private money investor was willing to lend $220,000 on the transaction. Our buyer needed another $90,000 to cover the down payment and closing costs. $62,000 of this was cash the buyer had in the bank, the other $28,000 was covered by the private money investor with a note secured against a large boat that the buyer owned free and clear. The boat was the "additional collateral" that encouraged the private money lender to do the deal.
Real Estate Finance Is A Cyclical Business
Understanding that money flow is constant and that we just need to know the current cycle. Is it easy to get money? If so, then creative financing solutions most likely are not that important. But when money flow is restricted, creative financing is a "must-know" for real estate professionals everywhere.
If you are currently trying to sell your home, make sure that the real estate company that you choose to employee knows how to increase your buyer pool with creative financing options.
Joe Manausa, MBA is a 26 year veteran of real estate brokerage in Tallahassee, Florida and has owned and managed his own company since 1992. He is a daily blogger with content that focuses on real estate analytics and providing his clients with a tactical advantage in today's challenging market.