hi Melissa,
I'm thinking the same thing, and I think it could work. The advantage for us investors is that we could likely get the property under contract for much less than if we tried to buy a house with cash and traditional financing.
The problem is not how to do it, but finding a seller willing to part with their house for below market value before anyone else does. You will likely be looking for a seller who is in distress... Just lost their job or something equally disruptive to their income.
So let's say you find such a seller, and their house would be worth 500k in rehabbed condition, but it could use 100k worth of work... It's got a lot of deferred maintenance. They owe 350, and are happy for you to take over payments for a relatively small upfront cash fee, say 25k. Or you might just pay off their past due balance. Obviously you should negotiate to spend as little cash as possible.
Great, so you sign a subject to mortgage contract with them, the house becomes yours in deed, and you take over payments of the mortgage. You immediately market the house at 425k as a fixer worth over 500. Depending on the buyer this attracts, you might just sell it for cash or traditional financing to an investor or owner occupant who is willing to live in it while fixing it up to get the sweat equity. Or you might structure a wrap around mortgage or lease option, where you get monthly payments over what you owe to cover the mortgage plus a down payment or option fee that covers the fee you paid the seller plus. The buyers on the ends of these deals are usually going to lack credit history or have bad credit, but should have great cash reserves and income... You'll need to be careful when you qualify them.
The point is that you potentially get 20% down on 425k home, 85k, plus a potential monthly cash flow. And your up front investment was 25k.
That's the theory at least. The hardest part is finding that seller. In LA it takes a lot of hustle and selling, and at the end of the day the margins may be small... So a lot of work for a smallish return. I haven't been able to do this yet.
There is of course the risk, with subject to, that the bank will call the loan. Most investors will tell you that seldom happens, but the folks I've heard from who have been in this game since the 70s have been around when the interest rates rose dramatically. When that happens the banks may very well decide to call the loans. It all depends on whether having a performing asset is as valuable to them as the percentage they are losing by letting you pay off an older loan with below current rates... Probably prefer the performing asset if the new rate is only .5 percent higher, but what if the rates climb to 2, 3, or 4 percent higher than current? Then is it worth their while to deal with a potential foreclosure? Something to consider. And the Fed seems to be in the slow process of raising the rate.
To learn more about the how, which has a lot of complications, check out BP podcast #70 with Grant Kemp, and I'd recommend the book Making Big Money Investing in Foreclosures without cash or credit, by Peter Conti.
