I found a property appraised value is $190,000 have contract for $152,000 + closing paid. I also get $15k at closing. Property is going to be lease optioned back for full payments and repairs. Is there anything I am missing? any pitfall?
Yes, I think that there is something you’re missing. When you lease-option a property, you are really renting it and all of the normal rules about rentals apply. You have not listed the rent payments, but I’d be willing to bet that this is a negative cash flow situation. Why not post the rent that you expect to get?
P.S. appraisals mean almost nothing. Did you ever wonder why appraisals for new homeowners come out at exactly what is needed for the loan?
Mike
Bump!
We need a lot more information in order to give out our thoughts…
Let us know,
Jeremy Blunt
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The rent I have in the lease is going to be for the full amount of the mortgage PITI I don’t have that exact figure but its going to be around $1600 and they are responsible for all repairs. I won’t have a positive cash flow but I will break even. I don’t want to spend my cash so I’m doing 100% purchase to aquire the property, so my rate is a little high 9.0%. After I close I can do a refi and bring it down to about 7.5%. I felt that the $15,000 at closing would breifly make up for the break even scenario, is this faulty logic? Thanks in advance.
Yes, your logic is faulty. Operating expenses typically run 45% to 50% of gross rents. So, your break even scenario is really a significant loss. You’ve read somewhere that lease options are great because the tenant will do everything and you’ll have no real management. That is simply guru NONSENSE! The fact is that the majority of lease option “buyers” don’t ever exercise their option and you are frequently left with a house that has a BUNCH of deferred or botched maintenance. Lease option buyers are really nothing more than tenants. They behave like renters.
Good Luck,
Mike
Thanks for the input, and I’ve put this deal together using info from this site. I’m buying the property at 70% of the appraised value. How can you get a property cheaper than that? The property is in good shape do you think it would cost 40-50% or $600 a month to maintain the property? that seems high I didn’t estimate that much.
Movistar,
You’ve only put this deal together using selected info from this site. Whether you believe the national statistics (the 45% to 50% expense numbers) is your decision. However, if your rent payments are going to be the same as the PITI, you’ve ignored ALL of the expenses except taxes and insurance. How about advertising, capital expenses, entity maintenance, office supplies, legal expenses, evictions, court costs, utilities when vacant, damage done by the tenants, fuel for your vehicle, management, vacancies, etc, etc, etc.
Your plan is to ignore all these expenses hoping that everything will go perfectly. If everything does go PERFECTLY, then your negative cash flow will be minimal. However, things rarely go perfectly - in fact they almost never go perfectly. What happens when the tenant can’t get a loan to exercise his option? He hasn’t done any maintenance while he’s been there (because he couldn’t afford it). He leaves the house trashed with a lot of deferred maintenance. Then what? You’ve lost money for the duration of his stay; you need to spend a bunch of money to fix the property; and do it all again (losing money all the while).
The point is that it is not smart to start a business planning that everything will go perfectly. That is a recipe for failure.
Mike
There are a number of potential bad things in this “deal” besides what PM has already stated.
Your numbers aren’t exactly clear. You say you’re buying it for $152k plus closing paid. What exactly does that mean? Are you paying closing? Is the seller paying? Is it rolled into the loan? Also, you mention that you’re getting $15K back. How exactly? Is this number added onto the $152k, deducted from, or what?
You mentioned that it appraised for $190K. As PM said, appraisals aren’t nearly as important as the actual value. What is the real value? Why was the appraisal done? To determine actual value or to try to get a refinance?
What is the current condition of the property? Is it pristine, or does it need work now? What are the tenant-buyers putting into the deal besides a monthly payment (option fee?)? I disagree on one point with PM. T/B’s generally act more like a homeowner than a tenant until the point that they know that they can’t/won’t be able to buy the place. Of course, that may not necessarily be a good thing. Have you seen the way some people treat their homes?
You also mention that you are “leasing back” so I’m assuming that you’re leasing to the sellers. Almost ALWAYS a bad idea.
1st, they weren’t able/willing to make the payments when they owned the property. What has changed that will make it possible for them to be willing/able to make a higher rent payment?
2nd, if they didn’t keep the house up before, they definitely won’t keep it up as a rent 2 own property. Also, they probably won’t maintain the property as well since it “really isn’t” their house anymore.
3rd, there are literally a ton of possible legal problems that can come out of “leasing back” to a seller. I don’t know what state you’re in, but I’d consult legal counsel about the possible (probable?) legal situation that you are placing yourself in.
Finally, you don’t mention at all what you are actually selling the property for, but that is a very important consideration. First, it determines what you potential profit will be (especially considering that you’re making nothing on the monthly). Second, it determines what you T/B will have to finance at some point. Not really a good idea to give them a $1600/month payment if when it’s time for them to buy, they are likely to have a $2000+/month mortgage. No real benefit for them to purchase.
Roger
numerous fatal flaws in this deal-
-upside downside as a rental property
-lease back to seller is terrible idea
-rental income is unrealistic
-unclear if purchase is really a deal
-current fianacing structure is poor (9%, gettting cash back, but no plan with what do with the cash)
What are some that can be ajusted to make this a good deal?
How much should he have set aside for the operating expenses?
Tunckey,
The problem here is that the strategy is flawed. It is based on hope instead of reality. Renting out a property for PITI and repairs is financial suicide. This is a negative cash flow situation and the investor is counting on the “buyer” (who is really a renter) cashing them out in the future. The truth is that most lease-option “buyers” never buy the property.
Mike
So since he’s not bringing any extra dollars on top of the rent ask for makes it a bad deal. He has do money to cover no of the other hidden expenses. If he did keep the property how he has it plan and the rents kept up the payments is it possible that the house appreciates then he can sell for a profit.
The $15,000 is coming from the total purchase. They owe about $116,000+$15,000 to me = $131,000. $152,000 - $131,000= $19,000-another $4500 for closing they get about $14k.
If they default by missing payments then I’m planning to sell. One of the comps sold on that same street for $225k however it had about 300 more SQ ft. The other two comps a little further away sold for $175 and $180k which is why I think the value I got wasn’t as high. If they do default I’m going to sell, keep 5% + my holding expenses of the total sale and give them the remaining equity(I bet some are cringing on that one) If it takes longer than six months to sell then I increase it to 20% of the total sale. I found a lender than will refi the next day R/T at 6.5% so that will then give me a slight cash flow on the PITI and I’m holding the $15 for operating expenses and any problems. If all the worst happens I can handle the payments and expenses from my personal income. I’ve tried very hard not to rush into a deal but I just feel the $15k at closing is enough to handle the expenses until its sold.