Would you overpay on purchase price if cashflow is there?

Question

Looking at a park and owner is asking $130k over what it will probably appraise for but is willing to finance the whole purchase. This got me thinking, if you could get the owner to finance 100% (or even 95%) of the purchase price at a rate and terms that would safely cash flow after all expenses (maintenance, vacancy, utilities, management, etc.).....would you overpay for a park? Assuming already on city water/sewer, individually metered utilities. At some point you'll pay it down enough to see equity. Until then, the cash flow should support the asset.

Andrew Johnson · Answer

@Tyler Weinrich This is just more of an abstract thought process because I don't really know any specifics:

1.) At a macro level the owner is trading a higher price ($130K over appraisal) for favorable terms to you, the buyer (5% down and not having to quality through a bank).  The $130K sounds like a lot but for all I know it's a $3MM property.  If it's a $300K property then it's a different ball of wax.  Odds are it's somewhere in the middle and you're trading terms for purchase price.

2.) Terms for owner financing can/will make all of the difference in the world. If he's using a 15 year amortization schedule with 10% interest rate it's materially different (economically) than a commercial lender using a 25 year amortization tables and a 5% interest rate.  So...well...terms matter.  As will the (likely) impending balloon payment...

3.) The elephant in the room is the length of the loan.  If the owner is looking for a 5 year balloon payment and you can't get it turned around, can't secure bank financing, etc. then what do you do?  It sounds like you'd break-even-ish in the beginning so it's not like you're amassing money for the 25% down the bank will want.  So how will you come up with that cash when the balloon is due?

Edward B. · Answer

Are you really overpaying for it if it satisfies your cash flow and return requirements? An appraisal is only an opinion of value after all.  I'd be curious to know why you think it would appraise so low, though. Typically, investment properties are valued based heavily on the income capitalization approach. So if the appraiser knows what he is doing and appraises it lower I would make sure your numbers are good.

Paul Stout · Answer

@Tyler Weinrich First of all, I would like to say that I am 100% in line with the thoughts of @Andrew Johnson That said, my short answer is yes I would.  That being said the rest of my comment would look much like Mr. Johnsons except I might add that it depends on the upside potential.  I do not consider moving homes in and selling them upside potential.  You pay for it, you work for it, you have substantial risk involved, the only person who should benefit is you.  If I can force appreciation with little effort, money, or risk (things like sub metering or raising under market rents to market), I don't mind paying for some of it.  Owner carry is definitely worth something.  The big caveat is that you must be certain that the future value is commensurate with what you can likely finance the park for.  If the park will still be overpriced when you have to pay the piper, you will have a major issue on your hands.  Be conservative on these projections because you just cannot say for sure where interest rates and cap rates will be at the end of your term.  If we had some concrete numbers maybe we could run some math and give you a better idea of if it sounds good or not.

Ian Tudor · Answer

@Tyler Weinrich - Valuation of real estate is an art. One person's opinion of value doesn't mean you are overvaluing the asset. Mobile home parks are an unique beast in terms of real estate. There are several ways to value park-owned homes vs lot rentals. Appraisers aren't necessarily up to speed on the nuisances of the industry and can mis-price the asset. First, you need to determine what return you would need to purchase the asset. Once you determine that look again at the financials and decide if it fits your criteria. If so, then pull the trigger and buy the property.

Recently, I purchased a park and the appraiser said I couldn't get above market rental rates because no one in the market was able to do so. In the past 3 weeks, I've sold over 20 mobile homes at above market rental rates. Sometimes a person who misprices, is an opportunity to make a lot of money.

Gulliver R. · Answer

yes, if the cash on cash return was high enough as is, and if the NOI can be improved. What’s the upside on this park?

Ghazey Aleck · Answer

Over paying to get 100% seller financing with it cash flowing would certainly have my consideration. It all depends on terms and how the numbers ultimately work out in the deal. Trust in numbers, do they work? They need to work on both the entrance and exit of the investment. It may look good upfront but cost you in the end.

JD Martin · Answer

Your danger in this is if you have/want to exit early. If you haven't realized significant appreciation, you could be forced to bring some cash to the table or default and lose your basis. Of course, at 100% financing, you don't have much basis (really, virtually none), but you will have other closing costs.

Like @Andrew Johnson said, there's some details missing. $130k on 1.3 million is 10%, on 390k it's 30%.

Ryan Groene · Answer

definitely consider it if it’s immediate upside that easy to do. Like raise rents and increase collections. Your cash on cash could be extremely high because your paying such a low down payment. Assuming it cash flows day 1.

Would you overpay on purchase price if cashflow is there?

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