Potential structure for my Hard/Private Money deal. Suggestions?

Question

I have a question on how to structure the following strategy to be more appealing to an HML or Private Money.

The idea is to set up a 2-4 flat rehab to eventually purchase myself, legally. I would find a property to acquire, have the HML/PM acquire it and rehab with their own funds. I would sign an agreement to purchase the property for a fixed premium over costs. I will be pre-approved for an FHA loan shortly. Instead of putting money down in the beginning, I would escrow it. If I cannot get financed, the money in escrow would go to HML/PM as security.

Basically the HML/PM has an obligated buyer in exchange for lower profit, all secured by money in escrow. The only difference between a regular hard money loan is when the security is received by an HML and there is no rehabber in the middle. More cash left for HML and I.

I pitched it to a local hard money lender who was not interested. The risks seem less then normal since the HML/PM knows that there is already a qualified purchaser: me. I would like to make it more appealing before I continue the roadshow. Any ideas?

Eric M. · Answer

Bill, It is not at all the same. I know because I am the local lender who turned down the OP. The difference is that in Yan's scenario, I would be paying $100K for the rehab, but his father would be doing the work. I wouldn't have control over the work being done, but I would be paying. An unusual situation to be sure. This is very different from a custom home builder who has his own crews or subs doing the work, and I felt there was too much opportunity for disagreement or trouble if the work wasn't done to my satisfaction or preference or if the budget was blown, but I was obligated to pay for it and potentially to own the home if Yan were to fail to close on his end of the contract. What would happen if Yan's father walked off the job? What would happen if there were permit issues with the work? My end sale price was going to be locked in but I would not have direct control of my cost of the project since his father was doing the rehab. And with a 100K rehab, alot can go wrong. What if it turned into a $150K rehab through no fault of mine and Yan could not obtain a loan for the higher amount or decided he no longer wished to get the loan. I would be stuck with a high priced rehab that may or may not be done well or that I may or may not be able to sell. Also, in a custom home, the sale is not an "option" for the buyer and the end financing is locked in prior to the commencement of construction. The builder is paid as he goes by the mortgage company. This scenario was based on Yan hoping that he would receive end funding at some point down the line so he could go ahead and proceed with the purchase. THe builder/funder (me) would pay all costs out of pocket (no matter how high) and then hope the buyer could perform at the end. The other thing about it was that FHA has a particular program called a 203 that is exactly for this type of scenario. The fact that Yan wanted/needed to go this other more unusual route was a red flag that I couldn't get past. In addition to all this, at no point did the OP indicate how much profit he was offering the lender in the deal. In fact, I did not even get a number from Yan as to what kind of price he was willing to pay in the end or what kind of profit was even possible if everything worked out well. So I don't know how you could make the statements that the "deal is solid" or that "a HML is not a HML if he doesn't make this loan" if you have no clue what the numbers even are. I wish Yan good luck in funding his deal, it may work great for another lender but I thought it valuable to give my perspective as well.

Yan P. · Answer

Eric, I thought about it further and see what you mean by end sale price. The premium could be a proportion of the sale price.

Yan P. · Answer

Eric, I did not want to offend you in any way with this post. That is the reason I did not mention your name. After I explained the loan the second time and you decided not to pursue, I did not want to bother by asking more details of the reasoning since I am looking forward to using your services in the future. But this is exactly the kind of feedback I am looking for. To address your concerns, please look to the following: Using my father as a contractor: My father has over 15 years of experience specifically in the City of Chicago. He has been the general contractor for over 1000 units, knows a majority of the inspectors in the city and exactly what they look for. There are very few contractors I know with those same documented credentials. That being said, if it is of major concern, I have no problem with a preferred contractor being used. I originally thought of this as a plus for a lender since you would not have to go through the search yourself. I was very wrong. Locked in end price: The end price is your cost plus a negotiated premium (profit). I did not indicate how much profit I was offering because that is a point of negotiation. Since I know less than you do about the HML business, I thought if you throw out the first number then we could work from there. If something goes wrong and I cannot purchase: This is the point of the escrow (also negotiable). If for any reason I cannot complete the sale, the amount in escrow would be transferred to you. It would provide cushion for a quick sale. I believe this is the same exact concept as down payment except for timing. End financing: I believe that the most I can do to lock in end financing is by being pre approved for a loan. I am very open to showing my financial strength to a lender (No scammers please). If there is anything more solid I can do to, please let me now. FHA 203(b)(k): You referred to a red flag being my disinterest in the FHA 203(k) rehab loan. Before the process starts, I would be preapproved for the 203(b). The reason I am not interested in the rehab 203(k), which you correctly stated is specifically for this case, is because I have spoken to an individual going through that loan currently. It took her 4 months just to acquire the property for a decently higher price than could be with cash or HML. Further, it is true that the construction costs are financed into the loan, but you have to use their contractors who know that you are not paying out of pocket. The reality of it is that they increase prices for that reason. She ended up doing a lot of the work that was not specifically required to be done by the contractors with her husband to save on what she described as â€œOutrageousâ€ costs. The lender would supervise the project throughout. If you put a rehabber into the mix and a down payment at the beginning of the loan, it would be a regular HML. Again, I understand that this is not the typical HML and thank you for taking the time to post your opinion. I am taking what you saying into consideration. If anyone can suggest a better structure, I am all earsâ€¦

Yan P. · Answer

Thank you Bill, that was my thought process too. I feel more comfortable with pitching it to further HMLs. If anyone else wants to jump in to offer their opinion please do so. I think I will post this in seeking financing soon.

Bill Gulley · Answer

Consider the norm of how custom homes are built. A homeowner approaches a builder and they agree to build a home. The contract gets a construction loan and the homeowner puts money down on the sale contract. The HO gets a loan to take out the construction loan and the builder builds it. They go to clsoing and the HO moves in. Now, substitute the custom home for the rehab project. It's the same thing. If you get pre qualified for that take out loan, a HM lender isn't a HM lender if he doesn't make that loan, IMO. You have a solid plan! Good luck.

Yan P. · Answer

Bump... I am really interested in seeing the opinion of the experienced players before I pitch this plan to more HML's or PM. Thank in advance guys