Use Options To Minimize Risk And Maximize Profits
by Ben Innes-Ker
I received an ad call one afternoon. It was a woman named Leanne. She was
married with three grown children. She wanted to sell their house, so I went
through the process of screening the call and getting the relevant information
about the house, the mortgage balances, and what they wanted. It was a nice
house, 3/1, 1300 sf, basement, on 2.5 acres, no repairs needed, just outside a
town called Spencer, Indiana. They had two mortgages totaling $64,000 and were
$4,000 behind in payments. The property was appraised one year ago for $97,500.
We talked for a while and she informed me that since they had gotten a 2nd
mortgage, she and her husband Greg were having difficulty staying current on the
payments, and Greg hasn't had much work recently so now they are really behind
and have to do something. Leanne asked me what I would pay them for the house. I
asked her what she was looking for. I believe the conversation went like this:
"Well, if we could sell the house and get $85,000 for it we'd go ahead and do
that."
I said, "$85,000. For a cash sale, Leanne, that's a bit higher than I can go. If
I did pay you cash and paid off your two loans, are you sure you couldn't go any
lower than that?"
"How much lower?"
I told her, "Well, based on what you've told me all I can really do here is save
your credit by paying off your underlying loans and back payments. I might be
able to go a couple of thousand higher but that would be about it."
"So how much is that?"
"Now this is based on your information now. You said that you had $64,000 owing
and were $4,000 behind in payments. If I paid those off and added on a couple of
thousand for moving money then that would make it around $70,000."
"Is that what you would pay? $70,000?" she asked.
"That's right Leanne. $70,000 is what I could pay."
Long pause.............. longer pause..................and then a big, long,
sigh from Leanne.
"Well how long would this take?" she asked, breaking her silence.
I said, "Well, the way I would have to do this Leanne, is to option your house.
You see $70,000 is more than I'd be willing to come out of my pocket with to buy
the house, but I would be able to finance it for that much. It would take about
three weeks before I get things organized on my end to exercise my option and
then another three weeks before we close."
"Six weeks, huh?"
"Yeah. Does that sound like it's going to work for you Leanne?" I asked.
"Well, it could be OK. I don't know. We were really looking for more but let me
talk to my husband, Greg, and we'll talk it over. I'll tell him what you said
and we'll get back with you tomorrow."
"OK Leanne. When do you think you'd be calling?"
"Oh, probably in the afternoon. Talk at you later."
"Bye Leanne."
And we ended the call. I thought the deal sounded good, but I didn't know what
the husband was like and anticipated he would come back with all sorts of
objections about the option. What was it? How are we protected? Why can't you
pay more? Rather than worry about it I reviewed the answers to all of those
questions and then set about finishing what I was doing before the call.
The next day at about 2:30 pm the phone rang. It was Leanne. She told me she had
spoken to her husband about it and they had decided to go ahead with the $70,000
Option deal I had proposed to her yesterday. They wanted me to come out and
explain it to them a bit more and get the paperwork signed. I made an
appointment for the next day at 5:00 pm.
The following day, I showed up at their house in Spencer and after some small
talk began to tell them about the option contract and what it meant, that it
gave me the right to buy but not the obligation to, and that they also had the
right to continue trying to sell the house on their own if they wanted to do
that, that clause is written in the agreement. I explained to them how I was
going to sell the house with owner financing and then sell the note for cash to
pay them off.
They agreed with me that it should be easy to sell on a Contract, but they
wanted to know how long it would take me. They then informed me that the house
had been listed for nine months and hadn't sold. I didn't know that. Well, I
couldn't be sure, but I expect it would take about three weeks to find my buyer.
I would need a three month option, but it should only take about three weeks to
find the buyer. I then went into an explanation of how I would market the house,
how I qualify all my buyers first and then only call them for a walk-through
when that's the only thing left to do. No pesky appointments.
All of this, including a bit of tangential chatter, took about three hours. But
at the end of it all, Leanne and Greg signed the agreements and seemed to be
comfortable with me and my plan. They asked one last time if I could pay them a
bit more than $70,000. I explained that this was the most that I knew I could
deliver to them. I could agree to pay them more but if I did that I would be
dealing with unknowns and it could cause problems later if I wasn't able to
deliver their price. So rather than get their hopes up with a higher price, I
would prefer to stick with the promises I know I can deliver on. They seemed
happy with the explanation.
So I drove home with the signed Option Agreement, pretty happy. The next day I
ran the following ad:
Spencer - Contract. Owner
Will Finance Gorgeous 3br 2 ba
home on 2.5 ac. $105,000. $900/mo
+ Down Pmt. Call 333-4455
I set up a voice mail box to pick up the calls. The greeting repeated all of the
information in the ad as well as the address and told the caller to drive by the
property and, if interested, to call back and leave a message with their name
and phone number.
After two days I began getting calls. Most people wanted to know how much down
was needed. For each of these my response was "how much do you have?" They would
say something like a thousand dollars and then they would say they couldn't
afford that high a payment and they had credit problems and they didn't like the
area. After two weeks, I'd spoken to about 30 junk callers like this, but also
had about five people with good enough income and credit and varying amounts of
acceptable down payment (5%+). After three weeks of screening calls I found a
lady who said, "Hey that's a nice house. I want it." Her name was Candy and her
husband was Charles.
I took an application over the phone and prepared to pull her credit. Candy and
Charles made a combined income of $6,000 per month, easily covering their debts.
I asked her how much she had to put down, and she said none. She didn't have
anything to put down. I told her I needed something to show their commitment to
buying the house, and with her income she should have had something saved, what
was going on? She went on to tell me how they had just been through a very long
and drawn out child custody battle with Charles' former wife, had won the
custody of the two kids but had been cleaned out by the attorney fees. I told
them I needed some sort of down payment, even if it was just symbolic. She said
she had none. They had a good income but no cash right now, that's it. I asked
what her credit was like and she said perfect. So I told Candy that I would give
her information to the note investor who would be buying the mortgage to pull
her credit and review her information. If the investor sees a high credit score
on the report and OKs buying the note with no down then we could do the deal. It
would take a day or so but I would get back with her when I got word. She
sounded even excited when she said, "OK, call me as soon as you know."
Before I called the note buyer, I drew up the deal on a piece of paper so I had
some hard numbers to work with. I decided the purchase price would be $105,000
so this would be the new value. A year earlier the house had appraised for
$97,500. Allowing for appreciation, $105,000 was on the high side but
reasonable. It was a nice property. I knew this particular notebuyer went up to
82% ITV (Investment To Value) with their note purchases, and that their minimum
discount was two percent. This was a solid borrower so I figured 3% to be on the
safe side. What I was trying to do was find out what would be the note amount
that when discounted two percent would leave me with the 82% ITV maximum that
the notebuyer would pay. Well, 82% of $105,000 is $86,100. And if I divide
$86,100 by .97 I get $88,762.89. I decided to make it $88,500 to stay with round
numbers
So my deal was: 1st Mtg: $88,500 at 9.9% for 30 years, fully amortized 2nd Mtg:
$14,500 at 10% for 15 years, fully amortized 3rd Mtg: $ 2,000 Down payment ($200
per month for 10 months).
I filled out a Paper Worksheet with all the relevant details about the
transaction and faxed it along with the 1003 Standard Loan Application I had
filled out for Candy and Charlie to the notebuyer, with a note saying that it
was the 1st Mortgage that I wanted to sell. She called me back the next day with
her quote. It was 97.5%. They would purchase the note for 97.5% of the face
amount. Boy! That was even better than I had expected. No problem with the lack
of down payment, the borrowers had good credit. 97.5% of $88,500 was $86,287.50.
My immediate thoughts were that I would be clearing about $15,000 cash at
closing, after closing costs. Gee. Gee Whiz! That's a nice profit.
With the quote in hand I called Candy to give her the good news and made an
appointment for her and Charlie to see the inside of the house the next day. I
was cautious about being too optimistic as no money had changed hands and they
hadn't signed a contract yet. Meeting them at the house, I showed them through
pointing out all the good things and telling them what I knew about the house.
We moved on to the yard showing them the property lines and eventually got back
to my truck.
I asked them, "Well, what do you think?"
I wasn't sure, but I think I made some sales mistake by asking them that. At any
rate, this question seemed to bring to light the fact that Candy was having a
bit of trouble taking the step and committing to the deal. Charlie was saying it
looked fine let's sign, but Candy was umming and ahh-ing and looking very
uncomfortable, looking around, and giving these furtive looks to Charlie as if
to say, "save me." She started to say "well I don't know" kinds of things and
then asked if they could think about it. I hated to break the easy-going mood
that had existed up until now but the time had come for us to get a little more
serious. About this, I knew there were some sales rules to follow.
I told them, "Well, maybe on another house you could, but on this one I'm going
to have to know what you want to do today. Because I've got another three buyers
lined up, on hold, pending the outcome of what you guys decide to do today. It's
OK if you don't want to buy. But I just need to know it today. I promised I
would give these other buyers an answer by tomorrow. The house is available, and
it's yours today. What would you like to do?"
I think that's the Now Or Never Close. If it's not, it should be, because it
worked. They looked at each other for a long time. I can't imagine the fireworks
going on in their brains, but after nearly a full minute of silence Charlie
said, "let's just buy the damn house!" Candy looked at him a little longer and
said, "Yeah, OK Charlie, OK". We then OK'd the paperwork, and I took a $500
check from them to bind the agreement.
From here, I gave the closing agent both the option contract I had with the
sellers and the Purchase and Sale Agreement I had with the buyers and told her I
was creating three owner financed mortgages and selling the First to a
notebuyer, and I wanted to do a simultaneous closing, using the funds from the
note sale to close on my cash purchase with the sellers. She said, "no problem."
I must admit I heaved a sigh of relief. I gathered the documentation from Candy
and Charlie that I needed for the notebuyer (tax returns, pay stubs, the
purchase and sale agreement), ordered the appraisal, title report, and stood by.
The appraisal came in dead on $105,000. Candy called me "every" day and after
three weeks she was a nervous wreck.
Finally, we scheduled a day for the closing, to execute the documents. We closed
the transaction with the sellers first. Understandably Leanne and Greg were a
little somber about having to part with their home, but they signed the
documents, we shook hands and they left. On the other end of the spectrum,
Candy's smile was a mile wide as she and Charlie bounded into the room. We
chatted and I watched as they signed the mortgages that obligated them to pay me
$15,500 cash now, $155 a month for the next fifteen years, and the Third that
was $200 a month for ten months. Ten minutes later it was over. They gave me a
lift down the road to my car, and on the way Charlie said, "Thanks Ben. We don't
know how you did it, but thanks." We shook hands and they dropped me off.
The next day I got a call from the closing agent telling me that the wire from
the notebuyer had come through and that I could come in and pick up my check. I
drove in, signed a few more things and she slid the check across the table to
me. I looked at it. $15,551. Being the professional, she proceeded to tell me
that I should present my Land Trust to the bank when depositing the check,
they'll want to see the paper trail. But then she let slip that, "Hey that was a
pretty good deal. You put in $5, held title for ten minutes and got $15,500
back. That's not bad." I agreed and said, "It's a reaction to blocked up toilets
and bouncing rent checks." We chatted a bit and I went to the bank.
Bio:
Ben Innes-Ker has been a full time real estate investor for 7 years and is
author of the Motivated Seller Magnet - Automatic Lead Generating System. He is
constantly fine-tuning his marketing and business systems to make his investing
more profitable with less effort, so he can spend more time enjoying life with
his wife and 2 young children. He shares these unique profit making systems with
his Power Marketing Members.