Seller financed idea, just a hypothetical, figured i would share

[Alexander Santini]

Well, i woke up this morning and said, "Hey, I want to think of some creative ways to exit flips and practice investment analysis!". After brainstorming about what kind of exit strategy i might want to run numbers on i figured "Owner financing might be cool". So i put together some some numbers, and tried to run some calculations.

The numbers:

I was doing this for fun, so i just wanted to keep this hypothetical simple

1) I decided that the house in this situation would follow the 70% rule

2) I figured an ARV of $100,000 would be easy to work with

3) I could'nt find any numbers on what other people are charging for rates on deals that       they are exiting with owner financing with, so i chose to just go with 3.9% because I know   that interest rates are super low right now

Why i thought owner financing might be a cool exit:

1) You can get a large down payment for your property (30% in this hypothetical)

2) You can generate a long term cash flow while avoiding the costs that are associated with renting

3) Your investment has physical collateral; the property that you are holding the note on

Now it's time for the Hypothetical: 

Say you got into a property using the 70% rule and financed the deal with cash as and were also the contractor with the intent to flip the house for $100,000 house (ARV). You would have $70,000 invested and you put the house on the market at $100,000. Say after a week or two you have a potential buyer, but said buyer can't qualify for a traditional mortgage for whatever reason (possibly self employed). Would anyone out there consider seller financing with 30% down as an option? You get to walk away with $30,000 cash, and you are no longer responsible for maintenance and other holding fees, and the property is held as collateral if the mortgage is failed to be paid.

Additionally, you would be creating long term cash flow. Say the rate of interest is 3.92% annually and agree to a 30 year term, your monthly cash flow would be $331 and over the course of 30 years your $70,000 note would actually be $119,000 (a profit of $49,000 in interest).

So if you include the $30,000 from the 30% down into the $49,000 you actually profited $79,000 over the course of the 30 years, and you no longer have the head ache of holding costs, vacancies, repairs, etc. The only thing you would have to worry abut is collecting your mortgage payment each month, which you would still have to deal with if you bought and held because of rent.

Initially, i was like "WOAH, that's like 112% return on investment!", but i ran the numbers and after that it didn't look so appealing, and if you were to factor in capital gains and other fun government taxes, well, i don't think it's a good option, and there are for sure better ways to exit.

The numbers play out like this (not considering taxes, capital gains, and other factors, i was just trying to play around with the idea and keep it simple for the start):

Your NOI: ($119,160 + $30,000) - $70,000 = $79,160 or $2638.67 per year for 30 years and $219.89 per month for 30 years when you factor in the 30% down into it ($137 per month for 30 years)

Cap Rate: 2633/70,000 = 3.76% per year for 30 years

Cash flow: $331 per month for 30 years but only $137 of that would be profit

ROI: 2.33% without the 30% down factored into it (3.76% with the 30% down factored into the calculation)

Total ROI = $79,000/$70,000 = 112.86% over the course of 30 years

Conclusion:

Well, from what i see here, the problem is the interest rate used. It's just not very profitable, and i would say it's not a good investment. There are way more investments out there that can generate and compound money more effectively. I was just doing this for fun and figured I would share with everyone. I am still learning, still have A LOT to learn, but i figured i would put this out there for everyone to see, get a little feed back, and see if there is anything I could do better. After all, practice makes perfect right?

Thanks guys