Can I factor an Apartment Complex?

Question

I have a seller of a 50 unit apt complex offering seller financing with a down payment large enough to pay-off his existing note. The downpayment would equate to about 12.5% of the purchase price.

My question: Is there a way to factor the future rents in the current lease agreements to raise the cash for the amount down?

My thinking is that this apartment complex is a business. Other business' factor their Purchase Orders and average monthly credit card receipts. Can an apartment complex factor lease agreements based on actual rents received each month? Is this do-able?

Anyone have experience with this?

Thanks BP nation!

Darryl Dahlen · Answer

I don't know of a factoring lender who would lend against future rent. Factoring involves accounts receivables of companies who have strong contracts in place for a product. As Charles indicated, factoring is usually used when the billing cycle for is 30-120 days behind the invoice, so the factoring agent advances money on the contract, gets paid in full (plus their fee), and refunds the difference to the client. Companies that typically use factoring are: â€¢ Oil Field Service Providers â€¢ Staffing Companies â€¢ Manufacturers â€¢ Distributors â€¢ Wholesalers â€¢ Transportation Companies â€¢ Service Providers There ends your factoring 101 class for the day.

Bill Gulley · Answer

LOL, now with more info: Why don't you use the seller's money and do an intallment sale or a sale with a partitioned note (two parts of principal). Initially the seller receives what constitutes the majority of the rental income until the principal paid establishes the desired down payment and the second part of the note simply continues with what would have been agreed if the down payments had been paid up front. There needs to be funds for operations and maintenance, but you might run the places as sweat equity until you get the down payment made. I have done many deals in this manner, where part A of the note requires X dollars monthly and part B requires Y. By the way, part A and B can have different amortizations and interest rates so flexibility is key. When X has been fully paid, the amounts due under Y simply continue. Title does not need to be transferred until X has been paid as well! Plus side, the seller has a deal and gets paid, maybe at a better price than could be obtained by a cash offer, and the obvious tax considerations. Down side. it takes longer to do the deal when the down payment is financed. Good luck, Bill

Bill Gulley · Answer

Hi, if any lender felt like they needed to have rents sent to a third party and then to them, they don't have enough confidence in you in the first place to make a loan to you! Another way to look at it, if you're not trust worthy enought to send me my payments, why should I loan you money? Now, besides the note, you can provide an assignment of the leases as part of the collateral, as mentioned above, the lender already has the right to set-off payments with the rents! Good luck, Bill

Bill Gulley · Answer

Hi, yes you could. Also, why not do a management agreement and an option and finance the option price which would be the down payment and then do your seller financed deal? That gets the owner out of the business, and the same financing as mentioned above, but might be cleaner, I don't know what state you're in, which ever way, you're financing the down. Bill

Jon Holdman · Answer

Since rental property usually requires the rents to pay the first mortgage, how would you cover the first if you factor the rents?

Bill Gulley · Answer

Charles, in the 80s/90s local banks could factor rents, meaning discounting the rents for small advances over a few months and on commercial properties. However, this was also an issue where the loan classification was concerned. It's not a prudent lending practice and is better done as a mortgage or secured line of credit with future advances. As Darryl pointed out, notice the industries/businesses that actively factor receivables, they are generally dealing with slow pay collections, not bad debts, but companies that just plain don't pay until their billing cycle allows payments. Good post Darryl, I had to lol when I read it after my long wordy blah blah blah as you got to the point...lol! Bill

Vikram C. · Answer

Charles, that is exactly what is available in many parts of Asia, for example. Once you have a lease agreement, you can take it to the bank and do something called "rent discounting" where they give you the present value of the rent in cash and you can use it to do whatever you wish. You assign the rents to the bank. It is a bit different from a mortgage because your collateral is the lease and not the property. At the end of the lease term, you do not owe anything to the bank and you can lease the property again and do the same thing. Landlords love this because they get the value of the lease up-front at a reasonable cost of money, although a mortgage is cheaper. This is done typically for office buildings and larger retail outlets where the tenant is an established corporation with good credit. You do not do it with your typical individual residential tenant, although a friend of mine did just that with a portfolio of inidividual tenants but at a higher cost.

Account Closed · Answer

Vikram, can you tell us a little about what you know of these arrangements. Typically factoring is used when there is a timing issue and a business needs money sooner for cash flow.

Vikram C. · Answer

Factoring of rents IS done in some countries and that, too, by regular banks. Not in the U.S., I guess, based on the other responses.

Bill Gulley · Answer

There were no replies when I was typing this, Charles beat me to the punch! LOL Hi, yes, they go a step further than factoring, it's called a mortgage. Factoring receivables is usually small amounts owed from a wide base of debtors or it's a lrager amount owing from a large credit worthy entity and usually unsecured. The risk associated with default by all debtors is unlikely and a few are expecte. The discount reflects the risks in advancing these funds. Tenants are potential debtors, because under certain circumsatnces a tenant can move out and not owe anything, in fact, a landlord may have to pay the tenant. A fire is a good example. Which brings up anouther risk consideration, dispersion of contingent liabilities, if one tenant has a large fire in one unit, the whole complex could be closed and red tagged, not only might you lose income from one unit, it's possible to lose the income from the entire complex. Factoring rents is much more risky than factoring receivables of a manufacturing concern. If one customer fails, all the others are likely to continue to exist. When any lender provides a loan to a landlord/property owner, they are considering the income derived from the rents. That is the expected cash flow considered to repay the loan. Risk is reduced by taking the property as collateral and since it's from one party, the borrower, the credit is considered as well. Now, let's move upthe real estate food chain a bit. A commercial property leased to Wal-Mart, that has insurance, loss of rents is insured and where the rents are considerable, such short term rents might be factored for a few months or say for a year, but this is unusual today, primarily because making a commercial loan is more profitable. But let's say a bank agrees to factor 9 months rent from Wal-Mart, the costs will be similar to a mortgage and the rate of interest or yield to the bank/factoring agent will be much higher than the current loan rate. So, if I were the banker or factoring company, I would have to ask why would this guy want to do this rather than do a conventional loan, it's not a very good business practice and if he is willing to do business under those conditions, something is probably wrong, so we better up the rate/discount again! After all, when you have a commercial loan on a property generating rents, the rents are assigned to the lender as an "off-set" to amounts owed. Why would I factor rents when I can have the rents and the property as collateral? Historically, any expected future income could be and probably was factored, but those financing arrangements were rather preditory, only obtained by those who couldn't obtain conventional financing and paid a much higher rate. Factoring today is more acceptable in retail and manufacturing concerns, not real estate. Factoring can be a great tool for financing inventories and costs of goods, short term financing requirements. Using short term financing for long term capital needs is a really bad idea. Should your ability to refinance short term financing ever become an issue, the longer term or capitalized assets may be at risk. So, is it possible, yes, I guess someone might advance a few bucks, but it would probably be very expensive and it is not a good idea from a financing standpoint. Bill