Real Estate Investing: 3 Options to Wholesale REO Properties
The REO market makes up 23% of sales nationwide, according to Trulia.com. Although banks are less apt to take a low-ball offer with the improving housing market, Real Estate investing with REO’s can be very profitable.
On Monday I received an email from one of my Bird Dog Investor students. It didn’t surprise me when he had a question about wholesaling REO properties. If you are unfamiliar with the REO assignment process, it can be confusing.
Itunu, my student, found an REO listed on the MLS. He inspected the house and completed a profitability analysis to determine an appropriate offer price. Through conversations with the listing agent, he established that the bank would likely accept an offer which would enable him to make $10,000 by assigning of the contract.
Unfortunately there is a problem. Lending institutions do not look kindly on people making big profits on the back of their losses. As a result, it is nearly impossible to do a conventional assignment when a bank is involved.
The good news: there are alternatives.
The Double Close
Double closing on the house is an option. A double closing entails two transactions. The first is a purchase between the bank and the wholesaler. The second is the sale of the property from the wholesaler to the end buyer.
This strategy is clean and shields profit from the prying eyes of the bank. The downsides include the need for resources and additional transaction fees.
The double closing option will only works if you have one of the following resources: (1) Enough cash on hand to buy the property; (2) A title company that will use the proceeds from the second transaction to fund the first.
Since Real Estate Investors often use wholesaling to build cash flow, the necessary cash-on-hand will eliminate the double close option for most wholesalers. Unless you have a long, seasoned relationship with a title company, it’s unlikely they will agree to apply proceeds from the second transaction to the first.
Don’t forget Uncle Sam. He wants his cut. When double closing, the wholesaler will bear the transactional cost (transfer and recordation taxes, title fees, etc.) for half of each transaction. These costs eat into the bottom line.
Double closing the deal is an option. But it’s likely not the best option.
Sell the Business, Not the Contract
A second option to wholesaling an REO is to contract the property in a unique business entity and then sell the entity.
This strategy works like this:
- Create an LLC or other business entity. Example: 123 Main Street, LLC
- When submitting an offer on a property, list the LLC as the buyer of the property.
- Sign all offers, contracts and communications associated with the REO as a member of the LLC. Example: Joe Smith, Member, 123 Main Street, LLC
- After finding a buyer, sell the business entity, not the contract. The agreement should include language which ensures the buyer that the right to purchase the property is controlled by the entity.
- Complete the sale of the entity at the closing on the property, and collect a check from the buyer independent of the Real Estate transaction.
- Have the buyer sign all closing documents as a member of the entity. Example: Tom Johnson, Member, 123 Main Street, LLC
Benefits: Contracting with an entity allows a wholesaler to remove himself or herself from a transaction. This shields the profits from the bank. Using an entity also eliminates duplicate transaction fees present in the double close.
Conflicts: The “Sell the Business” strategy is a bit complicated and may require some legal assistance. It can also be difficult to explain what is happening to the end buyer. This strategy should be practiced sparingly and with caution.
You will make more money in Real Estate by building relationships than you will by building houses.
Wholesalers need to build good relationships with their buyers. This fact is especially true when dealing with REO properties. The easiest way to wholesale and REO property is to work with a buyer you trust.
Every so often I will get a call from a new wholesaler trying to sell me a deal. I love these calls because they represent potential income. But about half of the time the conversation ends with me bouncing my head off the wall in frustration. For some reason, many wholesalers think that my number 1 objective in life is to cut them out of the deal, not Real Estate investing.
The truth is that I, and other serious buyers, don’t want to chase unproductive leads all over the countryside. We’d much prefer having someone to do that for us. Here’s the surprise – we don’t mind paying for someone else to do the leg work.
As you build a buyers list, insist on dealing with professionals. When you find an REO lead that looks promising, inspect the property and complete a profitability analysis. Then take the basics to your buyers. If there’s interest, discuss what they are willing to pay you for the deal. At that point, get out of the way.
This is by far the easiest strategy to wholesale REO properties. It’s also the one I recommend. The downside is vulnerability. There are snakes that will cut out the person that brought the deal. Choose your buyers carefully.
Wholesaling REO’s can be a little confusing at first, but after a transaction or two, the process becomes much less complicated. If you’ve shied away from these deals in the past, stop passing on this great money maker.