Ralph R. Roberts - Flipping Houses For Dummies

The approach for persuading a private lender to loan you hard money is the same as the approach for persuading a bank to finance your flips. See the earlier section “ Persuading a bank to finance your flips” for details.

You can often locate private lenders via real estate agents and mortgage brokers; by attending landlord meetings or investment seminars; or by joining a real estate investment group and doing a little networking. Most private lenders loan money through mortgage brokers because most states require that lenders be licensed.

Remain cautious of experienced investors, landlords, or real estate gurus who agree to loan you money only so that they can sell you their dontwanners (unprofitable properties they’re trying to unload, see Chapter 6for more about dontwanners). As a house flipper, you typically look for properties that owners don’t want, but properties that these people don’t want can be real lemons; otherwise, they would probably flip the properties themselves.

One of the big drawbacks to hard money loans is that they come up short — you may not get all the money you need to buy, hold, and fix the property. This is where gap loans come into play. With a gap loan, a private investor or partner puts up the rest of the money in exchange for a cut of the profits. The gap loan covers any remainder of the purchase price, all carrying costs (including payments to the hard money lender), and the costs of repairs and renovations.

The benefit of a gap loan is that you get to flip a property with zero out-of-pocket expenses. The drawback is that it costs you a significant chunk of any profit you earn.

To get gap lenders to partner with you, you need to convince them that your project will be profitable enough to generate a return on investment that’s significantly better than the percentage they can earn from a bank or from other investment options.

Partnering with one or more friends or family members may be an option, especially if you have rich friends whose house flipping skills complement your own or if you have the skills and they have the money. With their financial backing and your combined knowledge and skills, you may be able to form a long-lasting and financially rewarding partnership. You may also consider taking on a partner in the following situations:

Your credit is damaged, and you need someone who has a better credit rating to help you secure the loan.

You can obtain a loan for purchasing the property, but you need a partner to provide funds for renovating it.

If you partner with someone for access to cash, you typically split the profits. Unfortunately, when you’re just getting started, your negotiating muscle is a little flabby. The person with the cash usually calls the shots. A 50/50 deal is about the most you can expect, but that can be overly optimistic. With each successful flip, you strengthen your position and eventually can offer the people who front you the money slightly more than what they can make by investing their money elsewhere, so you keep most of the profit. Early on, however, you may need to give your more affluent partner a bigger chunk of the profits.

Taking on a partner is like getting married, so if you don’t trust a person as much as you trust your spouse, you probably shouldn’t become partners. Great partnerships are rare, but when they work, they enable both parties to achieve more than they could achieve individually. All too often, however, a partner runs off with the cash, fails to pay the contractors, cashes checks made out to the water company or building supply store and pockets the money, files an insurance claim to collect for damages without your knowledge, or figures out some other way to pick your pocket.

If you partner with someone, have your attorney write up a contract that details the responsibilities of each party and how profits are to be divided. Need an attorney? Head to Chapter 3for help in finding one.

Technically, flipping is quick — you buy, rehab, and sell a house in a matter of weeks or months. But not everyone’s in such a big hurry, especially when they’re just starting out. You may want to take your time with your first flip to develop a feel for how it’s done. Maybe you want to live in the house for two years so that you can avoid paying income tax on a good chunk of your profit. Whatever the reason, if you plan to take your time flipping a house, you may have other financing options — traditional financing, such as taking out a mortgage to buy the property.

If you’re thinking of going with traditional financing, take a closer look at your creditworthiness and examine your financial position as carefully as any lender would examine it. Pretend that you’re the lender — in that position, would you loan yourself the money?

The following sections take a snapshot of your financial picture and highlight the details that lenders commonly consider before approving a loan. By identifying areas of improvement, you can airbrush out any imperfections to make yourself look as good as possible to prospective lenders.

Net worth is simply whatever money you would have if you sold all your stuff and paid off all your debts. Officially, the equation goes like this:

Net Worth equals Assets minus Liabilities

A strong positive net worth indicates that you

Own more than you owe

Don’t borrow more than you can pay for

Can pay off a loan by liquidating assets, if necessary

Probably know more about net worth than you realize

To prove to a lender that you’re net worthy, type up a page that lists your assets and liabilities and presents your net worth. If you have a spreadsheet program or a personal finance program, such as Quicken, use the Reports feature to generate a net worth report.

A strong net worth can help you borrow money at competitive interest rates, but a low or even a negative net worth isn’t a death knell. If you have a solid investment strategy and the energy and commitment to implement it, you can secure the capital you need to get started.

Good credit is gold. Without it, you have access only to your own money. With it, you can put other people’s money to work for you. Whenever you apply for a loan, the lending institution performs a credit check — sort of a background check to make sure that you’re not up to your gills in debt, that your income covers expenses, and that you pay your bills on time.