All Forum Posts by: Michael Worley

Corporate guarantors without a corresponding personal guarantor isn't worth a lot to a bank. If you're setting up a C-Corp for the lending process that's fine. But if you're anticipating have the C-Corp do the borrowing from a bank without the owners of said C-Corp guaranteeing that loan it isn't common, and certainly isn't going to happen until the C-Corp is very well seasoned.

For all the reasons people suggest LLC / S-Corp or C-Corp structures (asset protection, inability to sue, etc) is why Banks want personal guarantees instead of corporate guarantees. Your XYZ Corp can liquidate all of the holdings and transfer ownership into ABC Corp and the XYZ Corp guarantee is worthless.

The reason most banks won't do this is because you can sell your interest in an LLC, thus changing controlling ownership of the property without changing title. This is why the financing is recourse financing.

If you're investing through an LLC, you don't need to go the private financing route (that's very expensive). You can easily go the commercial loan route through a bank. Depending on the size of the loan it will likely be a community bank (typically less than $1 Billion in Assets) or maybe a regional bank (typically in the < $10 Billion asset range).

You have to have a financing exit strategy. I don't mean what you'll do with the asset, but rather what you'll do with the financing. If you are buying a value add or a rehab asset, you need to have the financing appropriate for the stage you're in. You can't expect to have non recourse low rate financing until the property is fully stabilized. You need to stage your financing appropriately. A commercial loan for the 'prior to fully stabilized' stage is the best alternative if you can do it.

Depending on the nature of the asset and the exit strategy for you (i.e. fix and flip, hold for cash flow, etc.) the financing changes. If it's a fix and flip SFR or Multi Family, then the DSCR won't ever work, so you'll be relying on the global cash flow of the investors to support the payment, in which case you have to have a good case for that via personal cash flow of the investors, liquidity and/or additional assets to pledge as an abundance of caution.

To the question about the LLC's financials on a new entity, for real estate it's a non issue as the asset is what is generating the cash flow to pay back the loan not a new 'business' in the traditional sense. You will however be personally guaranteeing any loan with full recourse financing in the beginning. If you're not willing to or not able to fully guarantee the loan, you'll need a lot of capital down and a private funding/hard money loan which is much more expensive than traditional debt.

100% of the profits of a LLC are taxed in the year they are earned. This is the case whether you file a Schedule C, 1065, 1120s or 1120 tax form. It's true of all business entities. The only thing that changes is that, if you chose to file as a C-Corp for some reason, the profits that flow to the members of the LLC would be taxed as qualified dividends as opposed to ordinary income on the personal 1040's. In pass through entities the income is taxed for the first time at the individual level. But in any case, 100% of the profits are taxed in the year they are earned.

For the IRS' purpose, there are only two types of income. Passive and Earned. The entity structure just determines which entity pays the taxes, but you cannot avoid taxes. An S-Corp LLC vs. a partnership LLC gets taxed the same way. Earned income getting the double whammy of FICA vs. passive. But from an INCOME tax standpoint they are taxed the same.

I think it bears stating that you should not view the financing you get at the beginning of the deal as your final loan.

Investors should look at three stages of financing to calculate the value of a deal. The first is the Rehab/Construction phase. This is typically at a higher interest rate but does not amortize during the build out, so you are paying Interest Only. The next phase is the lease up / stabilization phase. This phase may be I/O or it may be amortizing, but generally speaking this is a temporary (up to say 24-36 months at most, hopefully closer to 12 months plus or minus). This (we call it min-perm) type of financing can be a second closing (if changing lenders) but often is just a conversion of the original note from an advancing note to a term loan with no additional advances. The third phase is the "The-building-is-ready-to-sell-or-cash-flow" stage. This is the stage that Permanent Financing (think longest Amortization Schedules and lowest interest rates) comes into play.

Knowing your exist strategy, the stages of financing and the options available at each stage, greatly improves your ability to generate accurate cash flow projections. It also allows you to not "step-over-dollars-to-pick-up-pennies". By that I mean that if you are trying to make the numbers work on a deal using the wrong numbers (i.e. using Perm Financing terms/rate when in the construction phase or vise versa) then you can pass up good deals thinking the debt service will be more expensive than it is in the long run, or you will spend a lot of time trying getting turned down by lenders by expecting terms/rate that don't make sense given the stage of the project you are in.

How exactly do you have a negative net worth if you borrow 80% of the value of a property? You have an asset worth say, 150k and a liability worth 120k. That's 30k of positive equity. Now, how did you come up with the 20%, was it cash, market appreciation, etc.?

REI is all about adding to your balance sheet. To my knowledge, no one is allowing you to borrow over 100% of the value of a property at this time.

Your statement about not added to net worth, only added to cash flow doesn't make any sense.

By definition, if you pay full price for something you've added no net worth. You pay $100 for something worth $100, all you have done is move money from the cash/equivalents portion of your balance sheet to the 'other asset' category. The way you affect your net worth in this instance doesn't matter (i.e. you borrow $80 and spend $20 in cash or you spend $100 in cash to buy a $100 asset has a net zero effect on your net worth).

What matters is the price you pay versus the 'value'. 'Value' is not an exact science either, but the premise behind REI is that in general there is a long track record of RE growing in value.

Leverage does not adversely affect your net worth or cash flow. In general, it positively affects it. For example if the CAP rate of a project is 7% and the interest rate paid on the borrowed funds is <7% the greater the leverage the higher the Cash on Cash return.

As for owning something lock stock and barrel, why would you want to?

Let's say I have two options, Own a $200k house outright with $20,000 in the bank, or Owe $100,000 on a $200k house with $120,000 in the bank. Which is better position for me? Well, you can't pay bills with equity, so if I had a medical bill for $30,000 I'd be better off with leverage. If I have to pay for a child's college tuition bill of $50,000 I can't do that with the equity, I'd have to convert that equity to cash. You get the idea.

Having lots of money tied up in illiquid assets is a recipe for failure if I don't have the liquid assets to overcome a financial hardship.

I would respectfully disagree. Portfolio loans are generally easier to get than what people consider traditional loans with respect to investment properties.

Portfolio lenders typically require personal guarantees, which gives them added collateral to offset risk. The loans are underwritten with almost all of the risk weighting given to the collateral being pledged. If the collateral is of sufficient value and/or throws off sufficient income, the loan is much easier to get approved than a traditional secondary market loan based on the borrower's DTI/Credit scores.

Rule 505 states you can sell up to 35 'other persons' than accredited investors and be exempt from registration.

So, take that how you want. Not legal advice or tax advice.

An easy back door way to achieve 100% financing is to get a line of credit secured by some collateral (typically real estate, but could be anything of marketable value). Then get a purchase money loan on a new property of say, 80% LTV. Use the LOC for the down payment. Since you own your own home a HELOC to pay the down payment might be the easiest option.

We often cross collateralize loans with businesses where we have the FLDT on the primary loan and a SLDT on the same collateral on a different loan. That wouldn't be uncommon at all for the bank to have done that with the seller's other properties.