Wholesaling Legally and Ethically

[Don Konipol]

In many states wholesaling has come under legal scrutiny.  This is based on two different areas of attack; some states take the position that wholesaling is brokering without a real estate license; the other area of attack is the position that most wholesaling methods result in the wholesaler committing fraud because they are signing a purchase contract knowing that THEY THEMSELVES will never consummate the deal, the only way the deal will close will be IF a third party is found to purchase at either a higher price or to pay a fee to the wholesaler to assume the contract.  While disclosing this upfront to the seller eliminates possible fraud, it solidifies the authorities position that the wholesaler is brokering without a license.

While some wholesalers are becoming licensed, it’s my opinion that this could lead to some serious legal ramifications as licensed brokers are not supposed to use their superior knowledge to take advantage of a less knowledgeable seller, i.e. they are supposed to fully disclose relevant information to the seller.  Pretty easy to see how this could lead to disgruntled sellers finding an attorney to sue a successful wholesaler after the fact.

From an ethical standpoint, the biggest concern is new, inexperienced and relatively unknowledgeable wholesalers tying up a desperate sellers property, being unable to consummate the purchase while the seller, believing he has a solid deal is foreclosed.  There’s also a number of people who question the use of superior knowledge to purchase property from those lacking this knowledge for a lower than “market price”.  Yes, capitalism is “under attack”. 

There are a number of ways to wholesale and sidestep these legal and ethical issues.  However, some are very convoluted and may not be practical.  And while I was never a “wholesaler”, I have during my 45 years in real estate wholesaled both residential and commercial properties.

The two methods I used were the double close and a straight option.  Due to numerous restrictions put in place after 2008, the double close is now extremely difficult to pull off.  With a straight option the wholesaler offers an option fee (non refundable (though you can make it apply to the purchase price IF the deal closes) for the RIGHT (not obligation) to purchase the property for a certain price, under certain terms for a certain period of time.  

This cleans everything up.  However, it does require the wholesaler to put capital at risk, as we used to say in my Brooklyn youth, “to put your money where your mouth is”. And does inform the seller that the sale of his property is far from certain.  But when someone is hurting financially, a couple of thousand or even one thousand dollars can be quite attractive.  So, if the wholesaler thinks he can flip a property for say $225,000, he may offer the seller $2500 cash for a 90 day option to purchase for $200,000.  If he’s correct and flips for $225,000, he’s made a profit of $22,500 on an investment of $2500.  If he does this 3 times and he’s right only once, he’s still made $17,500 (the one time $25,000 profit less the option fee less the two option fees that expire unused.

Now some will say that (1) people wholesale because they have no money and or (2) the new wholesalers lack the knowledge and ability to even have a small percentage chance of flipping a deal profitably.  If that’s the case they should not be trying to wholesale; they should be bird dogging.  

Btw, it’s amazing to me that the same people that find it “too risky” to put $2500 at risk for an option just paid $25,000 to a guru to learn how to “invest in real estate with no risk”.