Separating a Winning Deal from the Alligator: Sunday Morning Thoughts 30 July 2012

Alligator eating Money Sculpture 14th Street – New York Subway (Photo credit: Annie Mole)

With so many great deals out there and even more on the horizon, how do you pick a winner?

Analyze.

For each type of invest there are hard and fast rules of analysis to apply.

For instance you would not analyze a residential deal the same as you would analyze a multi–family deal.  Even within residential evaluations, a two bedroom one bath is not analyzed the same as a five bedroom 4 bath.

But there are similarities of analysis for all properties. The A, B, C’s of evaluating properties.

So how do you tell the difference between an alligator and a profitable investment?

An alligator is an investment which someone tries to sell you on with the promise of making a profit somewhere down the line, somewhere in the future.  The typical time period is five years.

So while you are waiting for the profit period to finally happen, the investment costs you money out-of-pocket to hold on to.  This is also negative leverage with a negative return on initial investment.

It may be better to not make that investment.

In real estate if the cash flow of the investment does not cover the maintenance costs and debt service, then it is classified as an alligator;  A losing money investment.  Which means it would no longer be an investment but a liability.

When investing in real estate you can make an investment positive by having a positive return on investment, also known as a positive cash flow property.

If your deal does not bring you a positive cash flow from you take over the property then you may want to reconsider or restructure the investment.

Related articles

• The A, B, C’s of Real Estate Investing: Sunday Morning Thoughts 22July 2012 (backedbyrealestate.com)
• Invest in Cash Flow Properties (foxnews.com)
• How to avoid a Ponzi Scheme: Sunday Morning Thoughts 15 July 2012 (backedbyrealestate.com)

Private Lender Tips If a Loan Goes Bad: Sunday Morning Thoughts 05 June 2011

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The goal for many private lenders is to make a return on investment better than CD rates.  If you chose the real estate investment wisely, you could stand to make more than CD rates, which is currently 2.39% for a  5 year term offered by Ally Bank.  Also to note with the volatility of the stock market, if you continue to invest in the stock market, then you will need to have more resolve than in previous years.  But with growth comes a little pain, does it have to be that way?  Short answer, no.

A private lender, with an investment secured by realty, may realize a profitable and safe return on investment.  Safe can be accomplished by being the first lien holder or as close as you can be to being the first lien holder.

As a second or third lien holder, a default can wipe-out your investment if the first lien holder files foreclosure first.  This isn’t to say that the second and third lien holder cannot file foreclosure if they are defaulted on to protect their interest in the property.  Most defaults begin with the lesser liens than with the primary.

So if you are the second or third lien holder then you can proceed with foreclosure per the contract you have with the borrower.  The loan servicing company can help with the process of foreclosure.  After filing foreclosure on the property, as the second or third lien holder you will have to begin making payments to the first lien holder or suffer foreclosure.  If the first loan has become delinquent then you will have to negotiate to bring the first loan current.

If you are the third lien holder on a property, you still can file foreclosure and you may be able to buy out the second lien holder’s position to make your interest in the property more stable, and if you can acquire the first lien holder’s note, then that would make you investment in the property even more stable.

Being the first lien holder not only yields you a better return on investment, but can also give your investment better stability.

Foreclosure on a bad loan is not the only option.  As a private lender you can allow the borrower to have another entity assume the loan. So instead filing foreclosure, if you or the borrower can find someone else to assume the loan, and use the down payment to bring all liens current, then that would be a win—win situation without the cost of court.  Being a private lender gives the flexibility to do more than just a standard few things as long as it is agreed upon by all involved parties.

Another option as a private lender is to allow the borrower to exercise a deed-in-lieu of foreclosure.  This can also avoid costly legal fees and you can either sell the defaulted note, or property.

Quick recap on what to do if the loan goes bad

1.    Be the first lien holder or as close to being the first lien holder
2.    Use a loan servicing company
3.    Have contracts in place for the what if’s
4.   Allow the loan to be assumable
5.   Use deed-in-lieu of foreclosure over a traditional foreclosure

Covering your downside can make all the difference in having an upside in passive income.

 

What Risk Would You Take? : Sunday Morning Thoughts 24 April 2011

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Risk—[risk] – n. 

To venture upon, the degree of probability of loss, take or run the chance of injury or loss.  To be under financial or legal obligation; held responsible.

 

In any investment one must be willing to take a risk.  The types of risks low, medium, and high, which are proportional to profit from taking the risk; normally the greater the risk the greater the profit.

A low risk investment yields a profit without much consideration for a loss.  Something comparable to a FDIC insured savings account at a banking institution.  This type of investment normally has lower profit and very minimal loss, even if the banking institution were to go into receivership.

A medium risk investment normally has a better profit than a low risk investment, but the risk is greater although the investment may still be a safe bet with a nice return on profit.  A medium risk can be something similar to investing in a slow growth fund or even a real estate investment such as a lease with the option to purchase or a class B multi-unit rental property.

The higher the risk the more likely you will have a greater return.

With that said, a high risk investment normally has a larger profit margin but if a loss is incurred it could be of a large amount, and in some cases more than what you invested.

So a good question to ask, how can I minimize the risk of loss?

Always be aware of the downside.  In any investment there is a downside.  The downside can range from a very long-term wait (5 years or more) to realize a profit, to a negative profit at the end of maturity for the investment.

How to gauge how much risk you can take, answer–what do you feel you can tolerate?

Neutral Arbitrage and the Effect on ROR: Sunday Morning Thoughts 19 December 2010

Quick recap, positive arbitrage is when your investment return increases with financing.  Negative arbitrage, your investment return decreases with financing.  Neutral arbitrage, your return on investment does not change with financing.

So how can an investor have positive or neutral arbitrage, picking the right loan is key to having a better rate of return.  When considering commercial property, such as multi-unit apartments, a low to no interest loan is best.

Interest only loans were only meant to have a life of no more than five years, after five years the loan could become upside down.  In today’s credit climate having a no interest loan would be difficult.  Lenders were admonished by the government for offering what is known as an investor’s loan to the average American.  This offering to the average person caused many to be in over their head at the time of the loan reset, contributing to our current foreclosure crisis.

All three arbitrage can be present when private lending, of course not at the same time; it just depends on the deal.

Related Articles:

http://backedbyrealestate.com/2010/11/14/arbitrage-and-real-estate-sunday-morning-thoughts-14-november-2010/

Negative Arbitrage and the Effect on ROR:  Sunday Morning Thoughts 12 December 2010

Negative Arbitrage and the Effect on ROR: Sunday Morning Thoughts 12 December 2010

Different risk and return of investment for the different investors (Photo credit: Wikipedia)

Negative arbitrage does not mean you will lose on the investment, negative arbitrage is when your investment return decreases with debt financing.  This is not to say that you are losing in your investment.  It means that you could have had a higher return with cheaper money.

Although the term negative arbitrage conjures images and feelings of loss, but that does not have to be the case.  With lending practices being tougher and the cost of money being higher, negative arbitrage will become more and more of a factor with investors.

What this means, the investment needs to have greater cash flow and/or appreciation to make up for the loss in arbitrage.

Related articles

• Millionaire Calculator (creditloan.com)
• http://backedbyrealestate.com/2010/11/14/arbitrage-and-real-estate-sunday-morning-thoughts-14-november-2010/

Buy Low and Hold: Sunday Morning Thoughts 03 October 2010

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If you were offered an apartment property with a few issues, such as high vacancy, deferred maintenance, and lousy management, would you buy or pass?

Many people would pass stating it would be too much trouble to fix the errors, and there is so much on the market with fewer issues.  Others would ask, “What is the lowest price you would accept for this property?”

Both answers are legitimate depending on your investment desires.  Maybe you would like something that has stable cash flow, and has been kept up.  This type of property will cost more to purchase and the rate of return would be lower than if you considered something else.

The something else property, the “problem” property could potentially yield higher rate of return than the property without flaws.

With the “problem” property you could negotiate a much lower price due to the high vacancy and deferred maintenance.  This lowering of purchase price could give the advantage of a higher rate of return when making the improvements and leasing to new tenants, netting more cash flow.

But remember when picking a “problem” property, the area is the key to success.  If you pick a “problem” property in an area which is also a problem, you may want to reconsider the purchase, only because it would take more time to straighten out an area versus straightening a “problem” property in a descent area.

Once the problems are corrected in your flawed property, the rate of return could potentially sky-rocket past the property without flaws.

Many people find that being a private lender erases most of all the risks, and yields high rate of return for minimal effort.  If you need more information please visit our website or call 323 988 7205 x 106