CHAPTER 10 At Last! How To Structure Your Deal 114 Copyright 2010 Find Private Lenders Now, LLC All Rights Reserved
1. Terms You will need to come up with a loan-to-value that will work for your business model and also for your private lender. Make sure there is a nice equity spread of a minimum of 20% to sometimes 30% to 35% to make sure that the private lender is properly secured. Make sense with your cash flow Make sure that you have at least $100 to $250 monthly cash flow left over after you have already paid your private lender and your taxes and insurance. You have to be careful not to take too much money out of the deal at closing so now you are funding it, and you are only making $50 a month cash flow on the property. I was driving through an area that I am familiar with and I saw a FSBO sign. So, I did what everyone was saying to do at that time, I called the number on the FSBO sign. I knew in that neighborhood that house was worth about $110,000, but I asked the guy on the phone what he was asking for it. He said he needed $97,000. I said $97,000? I asked him if he was the home owner or if he was an investor? He said he was a real estate investor. I asked him how many properties he had. He said he had about 20 or 30 properties. I shouldn t have said this, but I did, I said, I m new to the business, when you buy these properties, you have to make some cash flow. How am I going to possibly make cash flow on this house? He said, The way I have it calculated, you should make between $25-$30 a month. Are you nuts?! Unfortunately, I said that, I couldn t think of anything else to say. 115 Copyright 2010 Find Private Lenders Now, LLC All Rights Reserved
$25-$30 a month and I have to put all that money up front, and have all the exposure? No thanks, not interested. I remember six months later I drove by, that FSBO sign was still there. Nine months later the FSBO sign was lying on its side. Nobody bought his story. So make sense with your cash flow. Your Interest Rate Your interest rate is definitely negotiable with your private lender. Let s face it, you can pay anywhere from 7%, 8% up to 15%. You do not have to give away 15% interest unless it is a major Short Term Deal and you want to make sure that your private lender is going to get a great rate of return. Once you start paying out 14%, 15% it will be difficult to lower those rates to your private investors. That is basically what the hard money lenders are charging you. I try not to even breathe 15%, because there is a phenomenon in this business when you start telling people you pay them a high rate of return or 15%, it becomes unbelievable. They just can t believe it can be done. Then, all of the sudden, they start thinking that it has to be a scam, or that I m hustling them. I have actually had to explain to people what I m doing when I m paying them 10% because that sounds high to some people. They have said, if it sounds too good to be true, it usually is. Most of the deals you structure can be in the 8%, 9%, 10% interest rate payment to the private lender and they will be absolutely delighted. Because not only are they getting a great rate of return, their money is 116 Copyright 2010 Find Private Lenders Now, LLC All Rights Reserved
secured by an asset that has real value of at least 20% more than the money they put on the property. The reason why you are going to want to pay a 10% return is that it will work in a rental situation and give you monthly cash flow and is a rate that is very attractive to the lender. Private lenders like to earn a great return and want to know that you are making money as well, because they know if everything is working good that they are going to continue to have these opportunities at investing in real estate through this program. Occasionally, you will get a private lender that will ask you how you make your money. I love this, I always say, That s a great question, Mark. I may say, On this particular deal, because this property is worth $125,000, I have a rent-to-own family that s going to be paying $950 a month, my payment to you is $675 a month, I make the spread. But my real payday comes two years down the road when I eventually sell the property. Remember you only have, I always say O.N.L.Y., you only have $100,000 on the property, but it s worth $125,000, and when we sell it ll have appreciated a little bit, let s say to $134,000. That s a great equity spread to have, that s there to protect you. I m going to say to him, I m going to give you a 20% piece of the action called the appreciation bonus. So if it appreciates another $20,000 you get $4,000 in your pocket just for being in the deal. And the best part, Mark, it s all PASSIVE. How do you like that? This strategy will work nicely with your properties, making sure that you have a nice spread between what you are paying your private lender and what you are collecting from your rental resident or your rent-to-own resident. 117 Copyright 2010 Find Private Lenders Now, LLC All Rights Reserved
In addition, saying to your private lender that you pay 10% double digit returns rolls off the tongue nicely. It s very attractive to the person who is listening to that kind of conversation. Here s what I would say to one of my private lenders, Mark, Hey Mark, How s your investment portfolio? What rate of return have you been getting for the last year or year and a half, ballpark? I may ask him some questions like that. He will say 2 ½% or maybe 4%, at the most, if someone says 10% they re probably lying. They will be honest with you if you ask in a very non-threatening way, I use the word ballpark, it s nonthreatening. Let s say Mark says he s been getting a 2 ½% return on his money in the last year and a half. I may say Wow. Pay attention, that number that my private lender gives me determines how much interest rate I m going to pay them on the money they lend me. So, if Mark says he s been earning 2 ½%, or 3%, I m going to say, How d you like to double that? How d you like to go to six percent and have that money secured by something real, by real estate? Now you re paying six percent, you have your private funds and they re going to be well secured. You see how powerful that is? I am creating the terms of the deal. Short or Long Term You would opt for a short-term loan for a renovation or a rehab. You may be using say $20,000, $30,000 or even up to $50,000 for several months so you can pay a little bit higher interest rate. When you are focusing on your long-term hold properties it does not make sense to pay 118 Copyright 2010 Find Private Lenders Now, LLC All Rights Reserved
anything more than a 10% return because the financials aren t probably going to work in your business model. You are going to be too close to what you are paying the private lender and how much money you are bringing in monthly. You are not going to have a nice equity spread or a nice monthly spread. I would simply say to my private lender, if they were asking for more, Hey Dan, on this particular deal I m willing to pay 8.5%. I m just not in a position to pay more on this right now. However, I m always looking at a lot of different properties. There may be one that comes up in the near future that I can pay you a little bit more. How would that work for you? That s great, let s shake hands. You have to get real used to doing that. You have to get used to reaching out and shaking hands. When somebody says, Hey that sounds great, let s do some business. You better shake hands, because the moment you do, they have made a mental commitment. This is very important, get used to reaching out and shaking hands. First or Second Mortgages $10,000 should be a minimum that you want to take from a private lender. It is such work, dealing with all the paperwork and everything that you have to do to get those deals put together that $10,000 should be your minimum. Typically, at $25,000 or less they are going to get a second mortgage on the property. 119 Copyright 2010 Find Private Lenders Now, LLC All Rights Reserved
Let me clarify: an investment of $10,000-$40,000 is usually going to get a second mortgage because you cannot really buy a house for much less than $40,000 anyway. From $40,000 on upwards, you are going to be in the first position on that property. Typically you are going to put one or two Investors on a property. If you put two investors together, the investor with the highest dollar amount will get a first mortgage, the lower dollar amount will be a second mortgage. Special Warning: Do not, under any circumstances, pool funds to put a Real Estate transaction together! 2. Payments You can pay your private lender Monthly, Quarterly, Annually or No Payments. It s all negotiable. At first, they all usually say they want to be paid monthly, so I say, Here s how my program works. If I m paying you monthly, I ll pay you nine and a quarter percent. If I pay you quarterly, I pay ten percent. How would you like to be paid? Normally when I am working with a client (if I have to pay him monthly) I will pay him 9.25% rate of return, simple interest paid monthly. If it is Quarterly, then I will make that a double digit 10% return. These are interest-only payments. I will pay some investors annually if the loan amount is under $50,000. I don t like to have a $125,000 loan on a property and pay 120 Copyright 2010 Find Private Lenders Now, LLC All Rights Reserved
annually, because I am going to have a very large annual payment to make. The beauty of Annual payments is that you are not coming out of pocket every month to make those payments, especially if your goal is to sell that property. No payments works well when selling because whenever you sell the property you pay everybody off at one time. No payments works well for the private lender that has monies on a property because you can accrue his interest monthly until the property is sold. Then you will make one payment to them. No payments are great for rehab loans. Treat your private lenders with respect. Make sure you get their checks out on time. I am highly motivated to make sure they get their checks because if they don t get their checks, they can foreclose on my property. Do you think for a minute I am going to miss a $700 payment on a house that I have a $25,000 equity spread on? It s not going to happen. I always pay my private lenders early. If I pay them monthly I make sure they get their check a few days early, if I pay them quarterly, they are going to get my check a week or so early. I want them so happy with me that they are ready and willing to do this all over again with the next piece of property I call them with. 3. Programs Offered FLEX 5-Year Term One of my favorites I call the Flex 5-Year Term. When a private investor loans you money, you ll tell them it is anywhere from a one to five year loan. You don t want to be paying him back within the first year. You 121 Copyright 2010 Find Private Lenders Now, LLC All Rights Reserved
tell him you want him to be in for the minimum of twelve months because of all the costs you incur. The real estate professional, you, are going to have to pay for the title search, the closing, all those fees; you are going to have to pay for everything. You want to make sure that the private lender is prepared to leave his money in at least for a minimum of twelve months and up to five years. I developed this Flex program after doing many presentations and private investors would be real excited and ready to go, then in the midnight hour they would say, 5 years, what if I needed that money sooner? So I thought of this solution so that I do not have to have that big discussion. I will tell my private lenders an observation I have made after talking to a lot of investors, is that more people are concerned about the return of their money than the return on their money. You have to say it two or three times for it to sink in. That concern is what I am addressing with this Flex program. So, I tell them, If you need that money for some reason within the 5 years, whatever the reason is, all you have to do is call me up and say, I need my money back. If the investor decides 2-1/2 years into it that Hey, things have changed in my life, I would really like to get my money back tell them that you will give them their money back within 90 days. Just give yourself enough time to either find another private lender or re-finance that property. This is the basic idea behind the flex program. The best part is that you re going to re-finance that property anyway and pay him back because you want him to come back to you again in the 122 Copyright 2010 Find Private Lenders Now, LLC All Rights Reserved
future. You also want him to tell his business associates how nicely your program works. Therefore, it is a Flex Five Year Term for the private lender and it is also a Flex Five Year Term for the investor. If you had a private lender put his money on the property and after 2-1/2 years the rent to own person in the property all of a sudden says, I have enough money, I have come across an inheritance and I want to pay off the house. If he is going to pay off the house, I have no control over that, that money is going to go back to the private lender, but because they like me, that money is going to go back to me to reinvest it in other property, keeping those great returns flowing. So you want it to be a Flex Program for the private lender and yourself. Appreciation Bonus Another nice bonus you can offer your private lender is the appreciation bonus. That is really designed to help secure those entrepreneur lenders that are looking for a little bit more of a return than say the 9.5% or 10%. You can tell them that you have worked with a lot of folks that have considerable wherewithal and those folks, like yourself, are looking for a little better return than 10%. So you have come up with the idea to give them an appreciation bonus. The conversation goes like this: The best I could pay right now is a 10% return. However, I ll tell you what I m going to do for you. For folks like yourselves that have wherewithal, I have created an appreciation bonus. I have an appreciation bonus as an appreciation to you for doing business with me. It works like this, whatever the property s value is today, the appraiser says it s worth $125,000 today, if that property goes up $20,000, I 123 Copyright 2010 Find Private Lenders Now, LLC All Rights Reserved
don t care if it goes up $20,000 in two years or three years, whenever we decide to sell that property and pay you back that s when you re going to get the appreciation bonus. So, if it went up $20,000 and I give you a 20% appreciation bonus, you get another $4,000 just for being in the game. How do you like that? If they are still complaining and don t appreciate my appreciation bonus, mentally I say, that four letter word that starts with an N and ends with a T, NEXT. I won t disrespect them, they are good people and they have money. They may just be testing me, but I m not going to give them a piece of the action, I don t want a partner. And if I give in and give them a big piece of the action, what do you think is going to happen the next time? They are going to want a big piece of the action again. I will say to them, Hey, listen, I d love to work with you. You re good people and I know I ve got a great program. However, right now that won t work for my business model. We work so hard finding these properties. I have to renovate them; I have to make sure to pay the note to you, whether I have a renter in there or not. I have to go through finding a nice family to get in there, and ensure they re paying me like clockwork, I pay you like clockwork, and all of a sudden something happens. That family moves out of that property and they re gone for three months while I m out researching, putting signs up and advertising trying to put someone else in there, while I m still paying you like clockwork. There s no way in my business model that I can pay you that big spread. I m doing all the work. Again, I really appreciate you wanting to work with me. You know you re getting a passive return here. You put the money up you get a passive return. I ll keep my eyes open and maybe a 124 Copyright 2010 Find Private Lenders Now, LLC All Rights Reserved
deal will come up down the road that I think you ll like then I ll get back to you. You see I didn t burn any bridge. I didn t get cocky. I didn t insult them. They re happy, and now maybe even feeling a little bit bad. Guess what? Next time I get a deal I m going to call them up and say, Hey, Meredith, Joe, I picked up two more properties. Take a look at these. When can we get together? You re going to love them. What s a good time next week? Thursday or Friday? Thursday, let s do it! Be tactful, be patient, be professional, be nice. If I have a real player for a private lender, and I know he s savvy, he has money, and I know he has contacts, credibility, and a huge smear of influence, he has family that is in professional football, he s well connected, I am not even going to give him a chance to ask me for a piece of the action. I m going to tell him, with his background, I have a program called an appreciation bonus, I work with a lot of high end folks like yourself See how that works? They will appreciate your appreciation bonus. Here s how the Appreciation Bonus works: Let s say that the private lender puts $100,000 on a property worth $125,000. 2½ to 5 years out it re-appraised and let s say that at either one of those times it is worth $150,000; it went up $25,000 in value. If it went up $25,000 in value, the private lender is going to cash in on 20% of the $25,000 which is another $5,000 bonus. They will be thrilled! 125 Copyright 2010 Find Private Lenders Now, LLC All Rights Reserved
If you pay off in the first year If the loan is out for less than a year then there is no appreciation bonus, instead there is a pre-payment penalty that goes to the lender. So, if, within the first twelve months, you, the investor pays off the private lender early, you pay them off at month eight, you are going to agree to pay them an additional 90 days of interest. You will not mind paying that 90 day interest penalty because you are going to be selling that property and you are going to be cashing in on those proceeds, or you can tell your private lender that you will be delighted to roll over that money into another property or investment at the investors approval; therefore, not having to pay that 90 day interest penalty. Better yet, now you have actually funded another property. And what s fair is fair. If the lender calls that note due before the first twelve months, you can also make sure that he pays a 90 day/3 month interest penalty as well. 4. What We Are Not and What We Do Not Do Never co-mingle funds, lender funds. Never pool lender funds together to put them on a Real Estate property. Always make sure that either lender, if you have one or two, are in either first or second position. Also, you want to stay away from profit sharing with private lenders. They re just putting up the money and you re doing all the work. You are locating the properties, rehabbing them and then you are giving them half of the proceeds. That is a mistake, you should definitely get private lenders to 126 Copyright 2010 Find Private Lenders Now, LLC All Rights Reserved
put their monies up, allow them to invest passively, give them a great return from 8%, 9.5%, 10% and earn an appreciation bonus. A quick note on something I have been asked by those I m training, I have never had this happen, but in case you are asking yourself this question. I have never had a private lender ask how come I was paying another private lender more interest. If that were to ever come up I would look at it as an opportunity. I would simply say to Ray, whose getting six percent, and asking about Mark who I m paying nine percent, Ray, on this particular house, on the business model that I m working with on that house, I was willing to pay a little bit more because Mark gave me a little bit more money. He had a little bit more money and I needed those funds to help structure that deal, so I was willing to pay a little bit more. You are not Real Estate Agents, and if you are then you need to disclose that. Always let people know that you are not a Real Estate Agent, you are not an Attorney, and you are not a Financial Planner. Use a Disclosure stating that, you are not an Accountant; you do not offer that type of advice. Encourage them to seek professional council. 5. Question and Answer Sheet We make available a question and answer sheet for those hard to ask questions. *Lenders are not investing in your company or your LLC *Lenders are loaning money to your entity and the real estate investment *Not FDIC insured (neither are mutual funds) *Not subject to the Securities and Exchange Commission 127 Copyright 2010 Find Private Lenders Now, LLC All Rights Reserved
Lenders are not investing in your company or your LLC; they are investing on a piece of real property that has an equity value of at least 20% to 30% more than the money they invest. Also, lenders are loaning money to your entity and the investment in the real property, which is better for them and better for you. It is better for them because the performance of your company is not based on their return. Their return is a fixed rate. 128 Copyright 2010 Find Private Lenders Now, LLC All Rights Reserved