|
Today, I'd like to touch a little bit on creative financing. There are several major factors that figure into the process of creative financing. And here's a list of some of these issues including the issue of OPM, Other People's Money. Each of these issues creates a range of options that can serve to define fully the nature of creative financing from the standpoint of the results that it brings.
You're going to be looking for a price as far below the market as possible. It doesn't take a lot of additional creativity in a deal if you can get it at 30 to 40 percent below market value. That may be creative enough because you pick up a chunk of equity at the outset before anything else happens.
As we've already explained, if there must be money put into a deal, then let it be somebody else's money. This is especially true if you don't have any money. Sometimes circumstances forces you to be creative in this sense. A lot of deals are created because they have to be. It's one thing to depend on other people's money. It's another to make sure you are dealing with the right kind of people.
The terms hard and soft money are always characterized Other People Money. Typically bankers and institutional lenders are more conservative and demanding when it comes to the terms of their involvement. They want to check you out and force you to pass through their fine qualification filters before they'll let you have any of their money.
They want to charge you as high an interest rate as possible, especially the financial institutes that do the type of second mortgages. And they watch you like a hawk to make sure that you pay every penny back. That's why they're characterized as hard money lenders.
On the other hand, sellers can be soft money lenders. They might be willing to pay bankers for you without any security, credit checks or behind-the-scenes detective work. The more anxious the seller is to sell, the more willing he or she might be to carry back a portion of the equity in the form of a note. That's why sellers are at the high end of the creativity scale.
Generally, the more creative the investor, the more they will push for seller involvement with financing. Partners occupy a somewhat intermediate position on this scale. They have to be courted like the hard money people but they may be more flexible and willing to deal by qualifying the deal more than the person. Still, they are not as soft as the seller because they are going to want their pound of flesh in a timely manner. They're going to watch the pot boil to make sure they get their just dues.
Down payments can range from 100 percent of the value up to 0 percent of the value. With creative financing you throw out the traditional down payment rules and negotiate what will get the deal done in a win-win fashion. Naturally you have to do this in the context of the numbers since nothing-down deals are a dime a dozen, if you are willing to buy into high negative cash flows. The trick is to get away with the minimum input of capital and still have positive cash flow. Some people with unlimited resources of well-heeled partners will argue that the best way is to pay all cash and force high front-end discounts.
They give up down payment creativity in favor of discount creativity. You can't argue with them unless you are broke and have to fall back on low-down deals in order to survive. You may want to put off the inevitable of the deposit for as long as possible. You may even want to take the down payment and spread it out over the initial period after the deal is closed so that it never bites you too hard.
Now, assuming the seller will let you get away with this, creative deals sometimes have been to be structured around down payment flexibility. The trick is to realize that there can be flexibility in such cases. Sometimes all you need to do is ask. And asking is the creative energy. The further you are away from the cash, the more creative you will be. What if your seller's willing to take some personal property in lieu of cash? What if he or she won't take property but will take a note secured by property such as real estate? What if the seller doesn't insist on the note being secured and just takes a piece of paper with your promise, an unsecured note? All of these possibilities form a sequence from less creative to more creative. If you don't ask, the assumption is, Give me cash.
But if you ask creatively, you can sometimes get away with murder and still have a win-win deal. You may be asking yourself what rate of interest should be on the unpaid balance. Often this factor is tied in with other creative factors in the deal. If you don't get your way with some of the other factors, you might insist on forcing the interest rate down.
If you want to force your hand with one of the other factors, you might choose to yield on the high interest rate factor. This may make you seem to be less creative with respect to it, but you will get even on one or more of the others. We'll talk about that more a little later. The longer you can postpone the repayment the better. The reason for this has to do with the time value of money. The longer you have your money in your own clutches, the more you can put it to work for you.
The moment you pass it on to the seller, you lose the option of putting it to work. Naturally, this has to be counterbalanced against the cost of borrowing it from a seller. In each of these eight ranges creative finance can be defined as a point along the line in defining the range. The further the point moves along the line, the more creative the deal you've put together.
Article by Lou Vukas. Copyright © 2006. All Rights Reserved.
|
|
|
