The logic behind the idea is pretty simple: housing markets will never stablize until the flood of foreclosures hitting the market dries up. Letting bankruptcy court judges modify mortgages will reduce the overall number of foreclosures by keeping people in their homes, which will speed the stablization of the overall housing market.

Sounds great in a vacuum, but this is yet another example of a colossaly stupid “solution” that only will exacerbate the problem it’s claiming to try to fix. Does anyone with a hint of a clue honestly think that lenders will continue merrily along their way if the cramdown proposal becomes law, and not alter their business model whatsoever? That they’ll just bend over and grin and bear the losses and holes in their balance sheets that it creates, and say “Thanks sir, can I have another? Anything else I can do to help?”

They’d suddenly be facing the prospect of many millions of dollars in mortgages they’d lent out suddenly evaporating, with absolutely no compensation to them whatsoever, if a judge lopped off $70,000 from a mortage here, $80,000 from a mortgage over there, or whacked a few percentage points off their interest rate, just so a bankrupt borrower could stay in their home a few extra months. We’re already getting the results back from the first wave of borrowers that lenders let modify their mortgages, hoping that the lower payments would help them keep their home, and the data so far is pretty abysmal, as a high percentage of those borrowers that modified their loans are once again late on their payments.

The real problem we’re facing is getting liquidity back into the housing market, getting lenders comfortable again with putting their cash hoards to use, lending, instead of just sitting on it and trying to weather the storm, letting the foreclosure cards fall, taking their hits, and moving forward once all of the trash gets cleaned out of the system.

The only thing letting bankruptcy court judges modify mortgages will accomplish is to cause lenders to tighten their purse strings even more, and raise interest rates across the board on the few products they’re still willing to offer, as they have to somehow make up the losses they’ll be hit with once mortgages start getting modified. And not only will rates rise, but there’s no evidence that the rate of foreclosures will even diminish, as modifying mortgages at best only seems to delay the inevitable for most borrowers.

That’d normally be a source of joy for real estate investors and home owners in general, but if there is any joy it’s very muted. Aside from the fact that most long term mortgage rates haven’t correspondingly dropped as the Fed has ratcheted down the Fed fund rate, there’s the more obvious killjoy of the simple fact the housing market still hasn’t bottomed, foreclosures are still rising, and it’s harder than ever for many people to get a loan of any sort to buy a house or car. Potentially shaving $50-$100 off your monthly mortgage is nice, don’t get me wrong, but that’s a drop in the bucket given the larger issues the US is facing right now.

The interesting part, though, and what ultimately makes me think now is a good time to buy real estate (selectively, at least) is that for most people there’s still a pretty strong inherent tug towards owning a home. Owning. Not renting, not paying someone else to have a roof over your head. Owning a home that’s an obvious sign of success, of making it, and not throwing away money each and every month on rent.

I know, I know, you can trot out various arguments about the whole renting/owning debate and which is really more costly, but I’m getting more at the basic tug of wanting to be a homeowner. And while I’ve seen a few stories making the claim that tug no longer exists, as more and more people are scared from buying a home because property values may continue to plunge, I just don’t buy it, to be honest. A few years of doom and gloom doesn’t unwind decades of the praises of home ownership being sung, nor does it somehow erase all of the benefits of owning a home, both financial and psychological.

Renting House #1 after the last tenant moved out was pretty eye-opening, as I ended up showing it to six people before we found a tenant. Every single one of them asked about the possibility of doing a lease-to-own/lease purchase option, and every single one of them brought it up themselves, without me even mentioning it. And while it has it’s charm, House #1 is by no means a stunner of a property, as it’s an older 3-1 with a slightly funky layout, asbestos shingle siding, and a pier and beam foundation that needs leveling.

I just can’t help but think that a lot of potential buyers are falling through the cracks right now, given the current freezing of the credit markets, and that even a few years of a serious recession/depression won’t necessarily eradicate their desire to be homeowners.

The current tenant in House #1 is a good example of that, as he’s in his late 20s, married, and has three young kids. He works a construction job Monday-Friday in town, then drives to Houston on the weekends to pick up more work. He pays the rent in cash and has never had a checking/savings account or a credit card.

He’s very interested in buying the house, but this is a guy who’ll never get a loan from a bank these days, as a good bit of his income is from cash jobs that I’m sure never gets reported. Whether or not he wants to own a home and whether or not he can afford the monthly payment gets completely lost in the shuffle.

But I just can’t see that continuing to be the case for forever, as something has to give at some point. Either traditional lenders will stop over-correcting and loosen up their lending standards again or non-traditional lenders will step up to the plate. It may take a few years for that to happen, but it’s bound to happen, as anytime there’s an opportunity to make money, someone will step in and make money.

Until then, it’s hard to see the local rental market softening (unless we really do head into a full-blown depression) which seems an argument to continue to pick up rental properties, despite people looking at me like I’m crazy and the liklihood that prices overall will continue to dip over the next year. Especially if the majority of the tenants you put in those homes are would-be homeowners, who could easily afford the monthly mortgage payments if/when that option was made available to them.

As far as the details, it’s a revolving $100,000 line of credit, with a term of one year. I can use it for the purchase and renovation costs of a 1 to 4 family residential home within county lines, but that’s it; no mobile homes, no multi-family, no commercial, no new construction, nothing out of county. Interest rate is 7%, which is due monthly as I draw upon the line of credit. Any draws on the line of credit have to be approved in writing by the bank (for both the purchase of property and for renovation costs). There are no annual fees attached to it other than a $1,000 loan origination fee, and $200 for the lawyer that drew up the original paperwork. As collateral they’re holding a one year CD at their bank for $10,000 and the deed to any property I buy, if I default on the line of credit.

The only thing I wasn’t very happy about was a stipulation they included that from the date when I purchase a property, I have six months to either repay the principal used for the purchase in full or to secure permanant financing on the property. If I don’t repay it in full within six months or secure permanant financing, they can seize the property in lieu of payment. We went back and forth on that one, and they weren’t willing (or able, if you believe them) to budge on it, and I actually asked to think it over for a bit and left, eventually coming back later and agreeing and signing everything.

Only having six months from the date of purchase to renovate and sell a property in today’s market is obviously a bit of a tight window, which is where my hesitation stemmed from. Especially if the home needs major renovations, which is what I’d planned on tackling. Throw in the difficulty in some buyers getting financing these days and the inevitable delays in closing many deals in general, and that could get dicey.

That said, the bank SVP I’ve been working with made it clear that the last thing they’d want would be to seize a property in a case like that, and the clause is only in there to protect them from outright fraud on my part, as far as cooking up a shady deal with someone where I essentially draw out the entire $100,000 and live the high life for a year (or disappearing), and they’d have to wait for the entire 12 months before taking any action, as long as I was paying the interest on time. He said as long as I’m using the funds appropriately and can demonstrate that, they’d be able to grant me an extension to get the house sold, or set up permanent financing through the bank. From their point of view, they make the most money in the long run if I continue to buy and sell houses and utilize the line of credit, and they’ll do what they can to facilitate that, instead of looking to swoop in and seize a home.

Push come to shove, I could scrape up the cash to pay off the princpal balance myself if I absolutely had to and eat Ramen until the property was sold, so there’s always that escape route in my back pocket. I’m not really happy about that condition, but it is what it is, and could also serve as a nice motivational factor to get in and get the renovations done, instead of letting things drag out.

On the positive side, I was pretty surprised that they were able to offer me a 7% rate on the line of credit. That beats the hell out of the hard money rates I was investigating, which were all 15% or higher. And a $1,000 loan origination fee (which I won’t get hit with again if all goes well with the line of credit and it’s extended past the initial 1 year term) definitely beats what I’ve paid mortage brokers in the past when I went with conventional financing for flip properties.

So, all in all, pretty happy with getting the line of credit set up and ready to roll. Now it’s time to, you know, find something to buy.

Sometimes I really have to shake my head in wonder at my capacity to make things much harder than they have to be. Like, seriously.

I’d been reading on assorted REI forums for years about investors that fund their flips via lines of credit with local lenders in their area but never paid too much attention. I mean, sure, I definitely saw the value in that approach, but I assumed that these investors were much farther ahead of the curve than I was, net-worth wise, and that any of local banks wouldn’t have much to offer me, being the relatively small fish that I am.

We’re wrapping up the refinance of House #1 and the lender’s office is in the same building as the main local bank in town. I mentioned to our loan agent handling the refi that I might be interested in a hard money lender option, if they had one, and she told me to talk to the bank, and that they could easily beat anything she could offer me.

Talked with the SVP of the bank shortly after and based on our credit and other good stuff, he had no problem offering me a $100,000 line of credit at 7.75% interest, as long as we bought a $10,000 1 year CD through the bank and agreed that the deed to any property purchased would serve as collateral if we defaulted on payments for the line of credit.

He said there’s be no issue with using the line of credit for both the purchase of the property and repair costs, as long as I was willing to regularly submit invoices/receipts to them to justify repair costs.  There’s no annual fee attached to it, so no harm, no foul if I end up not tapping into it, and he’ll waive any set-up fees as far as establishing it, assuming we get the CD through them.

Which, all in all, is pretty much ideal for me, as far as what I was looking for for the next flip project. Yeah, it limits me slightly to properties under $100K, but that’s what I’ve been eyeballing anyway. I was pretty surprised that they’d go as high as $100K on the line of credit, as when I set up a line of credit for my business I had to fight tooth and nail to get just a $25K line of credit, despite having twice that in my business account on a fairly regular basis for a year or two.

I also dropped by and talked to the real estate agent we’ve worked with locally, and he was pretty optimistic about the local market, and said they’d had decent success of late getting potential buyers funded. There are apparently a couple of local lenders still wiling to do 100% financing as long as buyers can document sufficient income.

All in all, pretty dang encouraging. Not only would tapping into the line of credit for flips help on the peace of mind side of the equation (as far as not funding repair costs solely from savings), but it’d boost the bottom line as well, as far as cutting out most of the costs associated with traditional mortgages that I’ve simply had to eat so far. Not to mention giving me much more negotiating clout as far as going after beat-up REO properties and floating out lowball offers that I can write a check for, you know, tomorrow.

Still no definite plans but I can’t see an reason not to set up the line of credit, which should be up and running in a few weeks.

The only silver linings there is that July should be chalked up to a pretty large anomaly, due to the largely unsubstantiated complete freak-out that occured in the general markets at large and the lending industry in particular, and the rising foreclosures story continues to be pretty schizophrenic. Subprime borrowers continue to default like crazy, while prime borrowers continue to largely be good to go, with only a very slight rise in foreclosures by prime borrowers. Which is sort of good news, but not the best of news, as there still is likely a large overhang of dodgy subprime loans to work through, especially as ARMs reset.

As far as what that means to the real estate investor, well, who knows. Some people claim that the recent real estate bubble is the mother of all bubbles, and that we’re just at the beginning of a prolonged five to ten year slide, that will result in home values being roughly halved, across the board. Property values skyrocketed while interest rates were near historic lows, creating an unsustainable situation. To resolve it and return to equilibirium, interest rates have to climb dramatically (which the Fed seems very disinclined to do) or housing prices have to fall dramatically.

I just don’t buy that argument, though. Maybe it’s my relative inexperience and lack of having lived through such a thing firsthand, but housing seems to me to be a slightly different sort of commodity beast, much different from tulip bulbs or shares of stock in Koop.com. But, again, who knows.

As far as profiting from all this, the more I poke around, the more I’m intrigued by the idea of owner financing, after buying and rehabbing. The basic drill would be to pay cash for the property, complete your rehab, then get a loan based on the FMV of the rehabbed property (typically you can get a loan for 75-80% of the FMV in that situation).

Offer owner financing with a 5% down payment and an interest rate higher than your own (and possibly a 2-3 year balloon payment due to encourage the buyer to refinance.) Use the funds from the loan you received to purchase the next property with cash, pocket the 5% down payment, collect positive cash flow each month due to the difference in interest rates, and realize the bulk of your profits on the back end when they refinance.

In theory, you could basically rinse, lather, and repeat that same process infinitely, paying essentially no money down and 100% financing. The real upside, though, is that you’d be solving two of the major problems facing investors/rehabbers right now, not only finding a buyer to unlock your profits, but also securing financing for them.

Would that make up for the potential headaches of going the owner financed route? Quite possibly, especially if it remains difficult for some potential buyers to secure financing in coming months and/or years. That seems to be the biggest hurdle in my mind, more so than more and more inventory piling into the market as foreclosures continue to pile up.

I just wouldn’t have guessed there was that much money to be made, for the Carleton Sheets of the world, especially at the price many of his products sell for. I was running affiliate ads here for a brief time, until I felt too slimy and sleazy for doing so, solely because the program paid out $100 for every customer you referred that purchased something. So obviously there’s lots of money to be made pitching such products, despite the fact that many of his offerings top out at well over $500, which seems a pretty hefty price point for people short on savings and long on greed.

But I guess there are more than a few examples of that phenomenon out in the world, as far as people willing to spend lots of money (even if it means racking up credit card debt) if you promise them sweetly enough that the final result will be that they’re wealthy. Even if it makes no logical sense, in any fashion. Why in the world would any successful guru (oxymoronic, I know) waste time hawking such products and services, if they truly have unlocked the secrets of making vast piles of money with no money down? If it truly worked and was as easy as claimed, they’d simply use their own techniques to make vast piles of money and never once have to wrestle with the headache of stocking snake oil, marketing snake oil, dealing with unsatisified customers of their snake oil, etc.

The world is a very strange place sometimes.

The term “hard money lender” is basically just a fancypants investor way of talking about a private lender.  This is basically anyone that has extra money sitting around, who is looking to lend it to someone else in exchange for interest. A hard money lender is often an individual but can be a corporate entity as well. If your rich uncle loans you money to flip a house, he’s a hard money lender; if you’re about to be foreclosed on (and have terrible credit and massive personal debt) and have no choice but to get a loan from Sammy the Shark at 15% interest, you’re dealing with a hard money lender.

While most hard money lenders make their bucks loaning cash at exorbitant interest rates to desperate people with bad credit and/or lots of debt (otherwise those folks would use traditional lenders and get much better rates), some do deal with real estate investors looking to flip houses. From the flipper’s point of view, a hard money loan can be attractive despite the higher interest rate because there’s no limitation on how much the loan can be for, and what it’s used for. Unlike a traditional mortgage, a flipper can often get a hard money loan that includes the purchase price, closing costs, and the cost of renovations, so that they’re essentially flipping a house with $0 out-of-pocket expenses.

So why wouldn’t all flippers use hard money loans? First and foremost, they’re harder to find, and you’re not always dealing with mortgage lenders that have a stellar reputation, decades of operational success, and shiny, well-lit offices just around the block. That’s not to say that there aren’t many reputable, solid hard money lenders out there; there are.  Because of the higher interest rates and other costs, the main drawback of a hard money loan is that it’s simply more expensive for the investor, and bites more deeply into your profit margin.

If you can pay cash or qualify for a conventional loan, that’s usually preferable, simply because it’s easier and saves you money. But hard money loans are definitely a viable option for flippers, and shouldn’t be ruled out, especially if you’re just getting started and need to be creative about raising the capital to get started.

A decent jumping off point for finding hard money lenders can be found here at REIClub, which lists 50 or so hard money lenders throughout the US.

1) They claim they can’t find a phone number to contact my employer to verify that I am indeed employed here. This is despite the fact that I’ve already provided it to them, and that I work for a subsidiary of a publicly-traded company that has a market cap in the billions.  Not. Hard. To. Find.

2) Aside from my day job, I own a Web development business that pays me a salary. I’m the sole owner/employee, it’s a C corporation, and I’ve paid myself a salary for the last three years. I gave them all of the W2 info from my business, as far as what was paid out in salary, as well as the corporate returns for the last two years.

Now they’re insisting that I provide a complete P&L statement for the corporation for the last two years, as part of the “verification” process.  This is the only time that I’ve flat out refused a request like that, but that’s more than a little ridiculous. I’m not applying for a line of credit or involving the business in any way, as far as the mortgage application. I’m simply including and listing the income it pays me, since, umm, it’s personal income. It’s documented and accounted for in two different documents they’ve already gotten from me. You not only don’t need to see a P&L statement, but it doesn’t even “verify” anything, as far as salary paid out to me.

3)  They claim they can’t confirm that we have a personal checking account with Bank of America. I’m going to go out on a limb here and say that BoA probably deals with a fair number of such requests, and that I imagine there’s a way to confirm such things. Aside from that, they have the last two months of statements, which we already provided to them.

Not sure what else you need there, hoss, in order to, you know, do your job, or what else you expect me to be able to do to aid you in, you know, doing your job.

We’d all love to have the option of simply paying cash for an investment property but the vast majority of us don’t have that much free cash lying around, especially when first starting out. That’s a great goal to shoot for, as paying cash lets you boost your profits and turnaround time by avoiding mortgage application and processing fees, but it’s just not a viable option for most investors.

The best bet for most flippers getting started as far as financing goes is to go the mortgage route, as far as borrowing the money to buy those house. This eats into your bottom line as far as profits (especially if you have to make multiple mortgage payments) but that’s a necessary evil at the beginning stages, and hard to avoid.

One nice thing about flipping is that you’re typically holding the property for a short period of time (usually less than 6 months), so you can consider a wide range of mortgages, from traditional 30 year mortgages to interest only mortgages, ARMs, even 40 or 40 year mortgages.

You’re also typically not as concerned about the actual interest rate, either, as your goal is to make very few actual payments (if any). That’s not to say you shouldn’t shop around for the best interest rate, just that you shouldn’t be scared by a high rate if it has other obvious pluses, such as requiring 0% down payment. If you later decide to hang onto the house as a rental or until the market improves, you almost always have the option of refinancing.

Like any loan, you’ll have to qualify for financing. If you’ve got little income and terrible credit, don’t expect lenders to fall over themselves to give you money to try to flip a house. I haven’t encountered this personally, but apparently some lenders require higher down payments if you’re looking to buy an investment property, as opposed to a loan for your primary residence.

Avoid any shenanigans as far as trying to wrangle cash back from sellers under the table, after inflating the purchase price. It’s tempting for flippers to try such things, as in a perfect world your loan would also include money for the projected repair costs, so that your out of pocket expenses were close to $0, but sadly, that ain’t the way it works.

While it’s legal and acceptable to increase the purchase price to cover some or all of your closing costs, most lenders don’t allow you to inflate the price in order to increase the loan amount to also include repair money.

If you can’t pay cash and have terrible credit and otherwise can’t get a standard loan to finance a flip, pretty much your last resort is a hard money lender. These are essentially investors and smaller companies that cater to the desperate (often people trying to avoid foreclosure at all cost) who don’t mind paying very high interest rates.

For flippers, though, a hard money loan isn’t that terrible an option, for reasons covered above. If you’re only going to hold the property for a few months, the fact that the interest rate is 15% doesn’t really matter to you. Hard money loans typically require much less paperwork and can be done quickly, as they often don’t involve verification of income, great credit, etc.