GUIDE: Major Components of the REI System Every Buyer Should Know

So, you’re ready to start offering on property and acquiring deals; congratulations…you have made it further than most. This is a guide to help you better understand the offer process and how the real estate “system” works.

We all start out as “newbies”...it's a necessity and a rite of passage. That said, don’t be embarrassed or ashamed that you do not quite understand how things work. None of us did when we started.

This guide to give you an overview of how the real estate investing (REI) "system" works. There are a lot of moving parts and if you haven't been through transactions before, it's impossible to understand the way things work (you don't know what you don't know). To complicate this, as a newbie, you're likely reluctant to ask questions like "what does the title company do." I'll admit that when I started investing, I had no idea how things worked and folks in the industry all acted like this was stuff I should have known. If you're in a similar position, this guide should be beneficial...at the very least, it will get you asking more questions.

I. The MLS- The MLS is no magic secret, but agents act like it is. First off, it stands for multiple listing service (MLS). Back in the day this was a paper-based system and brokers operated under some suspect premises...the only way you could get property was through the broker who had access to the paper listings...and the broker controlled what they wanted a buyer to see. That's changed due to massive advances in technology, (well, the paper part, not the suspect part).

So, anyway, the MLS is just a database that licensed agents can access. The MLS is different in every city, and there are several iterations of the MLS from combined systems to super small and local systems to huge regional systems.

Truth be told, the MLS (at least the one I have access to) is awesome. There is no other tool that has data like the MLS. And that is still why agents treat this as exclusive. It's basically a last stronghold that is being chipped away by private companies. As technology rapidly evolves, the MLS may dissolve entirely...right along with the need for traditional real estate agents. But this is to be determined.

As a non-licensed individual, you cannot get direct access to the MLS. And many MLS's have moved to becoming even more secure by not permitting shared logins. Fear not, you'll either need to get your license or become part of an agent's team if you want access to the most powerful real estate data in the country. Just make sure you can add value in exchange for access. Busy real estate agents always need help, so ask them what they need and see if you can strike a deal to gain access.

Tip: you should ask your agent about an MLS “Portal” that will let you search MLS directly.

II. The Offer- Most offers are complex if they are on a "Board Approved Contract." This simply means that a few attorneys from the local Board of REALTORS has produced a 30-page contract that nobody reads or understands. You don't need this contract to buy property, but it's typically pushed and accepted by everyone. Here are some of the offer points:

Attorney Approval- if your agent is not including an attorney approval clause, they should be. An attorney approval clause is your “out” if things start to fall apart. Even if you must write this as an extra item, do it. Give yourself the most days possible...but 5-days is reasonable. The concept is that your attorney should be able to disapprove of a deal if it’s not in your best interest. The local board approved contract may already include this language.

Closing Costs- Should you ask the seller to pay your closing costs?...hell yes you should. At the very least ask for a percentage contribution based on the sale price of the property...what is the worst they can say, "no." I would caution here that if you are in a very competitive market, asking for items like contributions to closing costs might make your offer less competitive when compared to other offers.

Tip: If you are using a lender, you can pass your closing costs on the loan and pay them over the term of the loan. So, if the list price is $100k and your closing costs are $3k, offer $103k and ask for a $3k credit from the seller to cover your closing costs.

Title Insurance- Depending on your location, a residential transaction will call for an ALTA policy of title insurance. ALTA stands for American Land Title Association and is simply a professional association that helps standardize the industry. Title insurance will be required to make the transition happen...if your title is not insurable then you are at huge risk (especially in a dower state). Even off-market transactions should have a title search and be closed the same way any transaction is closed. Who pays for title insurance is usually regional, but everything is negotiable. Irrespective, if you are using a lender, they will require a lenders policy you will see in your closing costs.

Contingencies- Contingencies are items that need to be satisfied before the deal can close. You can ask for anything here but be reasonable. Standard contingencies on a residential investment property would be for the seller to provide copies of leases, rental income, and expense reports or improvements. It’s also a must to get a quick walk-thru pre- inspection. Most states require notice to tenants (24-hours), so give them enough time to notice tenants so you can walk-thru and get a read on condition.

Tip: The more you can verify, the better off you will be. Consider asking for the sellers Schedule E tax return that shows actual rental income. Some transactions may require an , but you should work with your attorney on this.

Inspection- Most folks like to ask for 10-14-days here...which seems reasonable. If you are an investor and buying distressed assets, or buying with cash, you may shorten this significantly, or bypass this altogether. Most inspectors can get you taken care of in 3-5 days. Unless you have a strong construction background, I would advise that you pay for the inspection (typically $200+ per unit). There may also be a remedy period afforded as an extension of the inspection to fix items identified. Ask your agent if this is an option.

Tip: Rather than paying for a full inspection, tell the inspector you want an "investor style inspection." This means you, or your representative, and the inspector agree to a lower price, typically 50-70% of a normal inspection and then walk through the property together. You won't get a full report, but you'll find anything that may be problematic from a trained professional. Just keep in mind you will need something in writing to exit the contract for the inspection contingency, so keep notes and take images.

Earnest Money Deposit (EMD)- EMD is usually state-specific, but it’s rarely a legal requirement unless you are buying at auction or from the government. Frankly, I think tying up cash is a bad idea, so keep it minimal if you are not required to submit...I never offer over $1,000. If you are in a competitive market, EMD may be a good strategy to use to sway the seller in your direction, but it's not a guarantee. Pay attention to local market conditions and make sure you have a solid agent in your corner who can advise you on protocol.

Offer Expiration Period- This is a killer...most agents want to give the seller time to "think about the offer"...NEVER give the seller time to think about it. Having an offer open for more than 24-hours is only necessary if the seller is out of the country without communication. I've written offers that expired in 4-hours in a competitive market...the offer is on the table; take it or leave it. 12-24 hours is usually enough time for a seller to consider the offer.

Tip: Experienced listing agents will require a property to “season” on the market to get the most exposure possible… meaning they will not take offers during the “seasoning” period….usually 1-2 weeks. Ask your agent about this for guidance.

III. Parties to the Transaction

Lender- this is simple...if you are using someone else's money, you'll have a lender involved. Their process is called underwriting and it works pretty much the same for big banks and private lenders. Don't get fooled into thinking private money grows on trees...these guys have strict underwriting guidelines despite having more latitude.

Broker/Agent- if you are buying a property that is listed on MLS, the listing belongs to a broker. The agent represents the broker in the transaction. These are just a different level of licensure, but most states only let agents practice if their license is overseen by a broker.

Seller- the party selling the property. This may be an individual or an entity like an LLC.

Buyer- this is you...buying lots of cash-flowing properties.

Inspector- The inspector may or may not be required. And some states permit unlicensed inspectors...some require licensure. If you need to get an inspection, always gravitate to licensed or certified individuals if possible. The inspector will go over the entire property and point out any defects or systems in need of repair or maintenance...this is a good item to have for negotiating a reduced purchase price or asking for concessions.

Appraiser- appraisers are trained and licensed/certified individuals that work for private organizations and can't be affiliated with banks. That said, private money lenders may have "in-house" appraisers they use to determine property value. When appraisals are ordered, the system works like a lottery...there is a random selection of an appraiser to avoid collusion. The appraiser will populate a standard appraisal report by looking at the property and comparing it to other sales and weighing the strength of the market. An appraisal may or may not be required, but typically is a good idea to understand true property value. Lastly, the type of appraisal conducted is determined by the property type. Almost all residential 1-4 family are determined by comparable sales. Larger properties will us the income approach…but there are no firm rules and appraisers may blend the two types together.

Title Company/Agent- this is one of the biggest mysteries when you are starting out or have not completed transactions. Here is the secret...ready for it...a title company works under (or is) an attorney that processes the paperwork and handles the money during a real estate transaction. They are the folks that do all the research on the property to make sure it checks out...then they assure the title is free from defects (liens and such). They can also handle funds in an escrow account...like earnest money deposits (EMD), down payments, and issue proceeds from the sale. They are a pivotal piece of the equation...they are really the center of the transaction and are involved from contract to close.

IV. Closing

Finally! On to close the deal. Closing is a straightforward process. Before closing you will get what is called the Closing Disclosure and/or a settlement statement (formally the HUD-1)...it's an overly complex document with 900 lines of stuff that looks like debits and credits....its not actually 900 lines, but close. You may find yourself asking...what the hell is this!? If you have a solid agent, they can walk you through it...and do not be afraid to ask the title rep or your lender (if you use one) to go over the statement in detail and talk about fees.

It seems like there is no room for negotiation and everything is written in stone, but you can shop for some cheaper services...and some fees you are stuck with. Nevertheless, take the time needed to learn about the closing statement and how to read it. Here is a brief overview of how to read one; https://youtu.be/M3JUHaruEPo .

At the closing, if you are the buyer, you'll be signing documents until you forget how to sign your name...and it's impossible to read them all before signing or you will be there all week, so make sure you review everything you can before closing.

After you make it through the first few closings, things will get easier. Just take your time and don't let anyone rush you through if you have questions about items. The title agent/company should handle everything, and you'll have a nice clean file at the end. They file and record all the necessary paperwork with your county & state officials, hand out checks, and give you a free pen with their logo on it ;)

Now get out there and close some deals!

Feel free to hit us up with questions at [email protected]