There’s an area that I’m very familiar with but it would be an out of state investment. There are loads of homes available for $5-20k. There’s plenty of REO and VA owned propeties in the area. Obviously selling these properties through normal retail means just doesn’t cut it.
The idea would be to purchase them then NNN lease option them.
I realize I’d need to make the numbers work but before I start detailed analysis I’m wondering if it is worth considering from a headache perspective? Would homes in this price range be nothing but a huge hassle with lots of tenant/buyer problems? I’d only want to NNN them because I have a feeling maintenance would eat me up due to the age/condition of the homes and the lower rent.
That or is an area like this a dream because most people can’t get conventional financing so NNN lease options will sell like crazy.
Why a lease option? The triple net lease doesn’t work as well unless it’s combined with home ownership. Use a land trust with the triple net lease and give your tenants immediate homeownership benefits. Your trustee collects the rent and pays you your monthly cash flow.
Problems with a lease option could crop up. If you are allowing rent credit, your tenants may claim an equitable interest in the property and need to be foreclosed upon instead of a simple eviction.
And what do you do if a tenant files a BK, gets a creditor judgment, or an IRS lien? You need the protection a land trust will afford you. This could be a gold mine for you, Marcus.
Ok, I’m following. Land trusts have costs to setup and maintain though. Obviously I’d have to build that into the price of the house. That’s harder to do when your house is only $10k. Any small bump in price is a pretty large %.
I will have to read the foreclosure laws of the state. If I remember, they are very owner friendly as long as they are living in the property. Eviction would be much easier.
Also, I read 1-3% for option consideration. That’d only be $100 on a $10k house. Is there a different rule for properties in this price range? I also read people look for $200/mo cash flow from a NNN lease. That also seems high my expenses in PITI would be under $200/mo. Not that I’m complaining if I could have them pay double my costs. I just want to be realistic about the numbers going into it.
Also, why would I have to use a land trust in the NNN lease option? Once they sign the NNN lease they are then responsible for all costs associated with the property with or without ownership rights. Then they have the option to buy at a later date for our negotiated price with whatever rent credits are agreed upon in the lease. Is the trust just so they get the tax benefits of home ownership? I’m thinking those aren’t important since the deductions from a $10k home won’t exceed the standard deduction anyway. These people aren’t going to be itemizing. If I stick with leasing then lease option without a trust, then it’s an eaiser eviction vs foreclosure.
The trust protects your property legally against any judgment, lien, bankruptcy that can and probably will occur with tenants in such a low value area.
The cost of the trust is only 1% of the mutually agreed value so if you sell a house for $20,000, the trust will cost around $450 + setup fee which can easily be recaptured with your tenant’s initial payment.
As to eviction, I recommend you look up the term “equitable interest” because that is what your tenants will have and that is why you may have to foreclose, not evict, with a lease option.
Finally, I like the fact that I don’t have to collect rents and just have the monthly cash flow mailed to me. Saves all kinds of time and effort. Good luck.
I did some quantitative research on the area. There’s under 60% home ownership, median income of $30k, median rent of ~$450, and houses can be had for under $20k.
Right now my math is if I can have the house rent ready for $20k and charge $475 for rent then I’d make $200/mo (I’m calculating mortgage, taxes, and insurance escrowed into their $475 payment and there’s still $200/mo left for me) on a NNN least option. I’m not sure what to charge for option consideration. 3% would be $600 which seems feasible.
I’d give a $50 rent credit per month which is almost exactly how much principal I’d pay off on the mortgage each month. Since appreciation is almost flat, my plan is to price the houses at my cost (including closing costs, trust fees, etc) + option fee + rent credits. I’d make money on the back end from the difference of what’s owed on the mortgage vs. them paying what the mortgage started at.
Marcus 335,
IMO, nope with a disclaimer at the end.
“median rent of ~$450, and houses can be had for under $20k.”
Assuming an incredibly weak rent multipler of 0.6%, and average rent of $400, that property should be worth mid-60’s. The old rule of thumb (before all the I/O ARM creative stuff made it’s way east in the US from Cali) for mortgage lending was 2-3 times annual income. My financial calculator is in the car, but off the top of my head, a 7% 30 year fixed for 60K should fall around $520 per month. Sell them the tax benefits associated with home ownership, get $650 per month and offer them ownership. If they’ve been paying $400 per month rent. it actually costs them about $600 per month pre-tax.
Do you think they might enjoy ownership of their new home as well as a potential $2,000 plus on their next tax return?
Watch your tail on rent credits/option fees. With 40% rentals in that area, I’ll guarantee you there’s a professional tenant there that will pillage you and make you cover his rent for several months while you expensively and lengthily foreclose on him. With rent credits and option fees, he can make a case for equitable interest in your property. Doesn’t matter if he’s right or wrong, you still cover the nut while scumbag lives free off of your dime.
Disclaimer: If the homes are truly only 20K rental ready, and you’re getting $400+ rent you’re looking at over a 2% rental multipler. I’d be glad to put some skin in that game. Buy as much as you can.
Regards,
Dave
Dave gives good advice. There are serious pitfalls with lease options as judges seem to be putting their collective feet down on them as “disguised sales”. Click here and go to reply #6 for the full details:
I’ll have to look into how this is working in the state I’m investing in. It seems rather complex since I’d be foreclosing and forcing a public auction, but the mortgage is in my name. Really, all I’d want to gain from foreclosure is to boot out the tenant and regain control of the property to lease option it again. I wouldn’t want to sell it at public auction.
Yeah, I saw that. Each state will have its own intepretation of its own laws though. I’ll check with an attorney in the state.
Are you suggesting regular leasing? In an area like that, I’d be scared of maintenance costs. You wouldn’t exactly be getting dream tenants that are worried about taking care of the place.
That’s part of the beauty of a NNN lease. It removes an unknown variable and makes your costs controlled. With controlled costs it’s much easier to run your numbers and have a strong idea what your profit will be.
I would never recommend regular leasing over NNN. However, your liability and exposure using a lease option is too great, in my opinion. Equitable interests don’t just apply in Arizona. You’ll find it to be pretty consistent throughout the states.
So you can NNN lease without making it a lease option? I always thought the two went hand-in-hand. Why would someone agree to a NNN lease if they aren’t getting ownership benefits?
I’d also be a little worried about improper maintenance costing me more money in the long run when they move out and I have to fix what they did wrong.
Ok, I’m following now I think. I thought you were still lease optioning with a land trust but you used a trust to hold the property. I get the difference between the two now.
The trust makes it personal property which means if they default you can easily take back posession. You don’t have the hassle of dealing with a foreclosure. That and with a land trust there’s no rent credit and no pre-determined sales price. That gets you around those issues.
They benefit from the tax deductions and the equity sharing when the property is sold even if they aren’t the one that buys it. Does this make the land trust an indefinite agreement? As long as they pay, the trust continues. Nothing changes until they decide to move. It sounds like I wouldn’t have control over when the property is sold and if they decide they want to move I have to sell. Who decides when to sell and what FMV is? How do you determine each person’s “equity” at the end?
Good work, Marcus. The NNN lease is always set for 2 years, 11 months, and 29 days. That way there is no DOSC violation. The tenant has first right of refusal to purchase at FMV at the end of the lease. He does not have an option, and there is no prearranged price. If he chooses not to buy, you can either extend his lease or the trustee will sell the property and proceeds will be divided according to the agreement. FMV can be established through an appraisal.
I have a Ph.D. and it took me awhile to figure out how it works. Once you get the understanding, it’s really quite simple and implementing it is just as easy. Often newbies are in the dark about new concepts. Here’s an example:
Marcus,
You’ve got it!! You just made Gary’s day by being an open minded and willing student. ;D Nothing frustrates an educator worse than an unteachable student. The trust is set up to expire on a predetermined date, but may be terminated early or extended at the mutual agreement of all beneficiaries. After set-up no one may change the terms without 100% agreeement. Taking it a step further, should we desire more control, voting rights may be transferred to the investor who may then vote on behalf of another beneficiary.
I think you’re seeing how the objectives of any type of CRE may be met through the trust without the risks typically involved. Good job!
Regards,
Dave
Well, thanks for being patient guys. I know I tend to have a lot of questions. I genuinely enjoy learning and I read a lot. Unfortantely most books are big picture and don’t get into the details. The details are the most important part. I’ve learned that it’s best to sort out details before you sign anything.
I can’t get that video to work on my laptop. Video is fussy because it’s a work PC with firewall and virus scan software.
i too have a market where the homes are pretty cheap in a low income environment…i currently own 10 rentals but want to use my last bit of money to buy and sell or maybe rehab with current seller financing…my credit is shot so i buy most of my properties using my father’s credit…i want to know what business structure i should set up that will gain its own credit (for further purchases) and what is nnn so that i can offer home ownership for rent like rates?..coincidently the rents in the area i invest in are close to $1000 for 30-50k homes so i wanna milk this baby for all i can…thanx in advance for all replies
