Real Estate

Subject to investing after COVID: is this the next big opportunity?

The next wave of motivated sellers is coming!!! Well, that’s what I keep hearing anyway. We have been talking about this and other COVID-related tips on our YouTube channel. If you haven’t checked, please do so. One short video a week that helps real estate investors, like you, make more money. While you’re there, do me a favor and watch our videos on YouTube, hit subscribe. The more subscribers we have, the more people will see our videos and the more people we can help.

I am regularly asked what the next opportunities will be for real estate investors. Especially during these difficult times. Last month I opened up and discussed my opinion on what to watch out for. I mentioned that I don’t think lease option transactions are the low hanging fruit. At least not in the short term. Not sure what a leaseable option is? Check out this post.

Other super smart real estate investors disagree with me. His argument is that when salespeople are distressed, there is more motivation and salespeople will be more open to their creative offers. Although I don’t disagree, I think most of these sellers will have other options. Leased and tied options are most often used when there is an extremely motivated seller, the one who must sell, but does not have the ability. It could be an imminent foreclosure, but more often than not it happens when they don’t have the capital to list the property properly and pay all the closing fees and commissions. If they are unable to make the payments, the interest and late fees continue to accumulate, putting them further and further away from a successful closing. Both tied and lease options are fairly safe for the buyer, but risky transactions for the seller. With these transactions, the seller remains in the underlying loan. They are still responsible, but trust someone else to make the payments. These transactions are perfect for solving the seller’s problem when he has no other choice.

There are two reasons why I think it will be a while before we see any real traction with these buying strategies.

As mentioned, these creative buying strategies work well with motivated sellers who don’t have the capital to sell in the more traditional way. In most markets, the rate of appreciation has skyrocketed in recent years. Anyone who has owned a home for a while will likely have equity from appreciation alone. Add that to the fact that the 2008 credit crunch pretty much eliminated low-cost, no-down loans. Unless the buyer has used VA or FHA, there is a high probability that they will have 10% or more as a down payment. They have equity from the day they bought the house. The interesting thing about VA loans is that they have a low default rate. VA borrowers generally have no problems because the debt-to-income ratio to qualify for these loans is low, meaning the borrower has more than enough income to support the debt. You also don’t see a ton of VA loans unless you’re in a military town. So this leaves us with FHA loans that make up less than 15% of all loans out there. FHA loans can be risky due to flexible guidelines and 3.5% down payment requirement.

We have talked in the past about the risk of leniency agreements and how they could be causing limited supply. When they start to come due, we could see a wave of loan defaults. While that is true, according to Black Knight, only 9% of loans in forbearance have less than 10% equity. Even the most troublesome loans, the ones that could cause a collapse, have equity and should be able to be sold with a real estate agent if necessary. The only interesting argument is the recent refinancing frenzy. With rates at record lows, people have been tapping into their capital. While this is the case, the LTV guidelines for a cash-out refinance are still low, so even those borrowers retained the equity in their homes.

The other reason I don’t think we’ll see a wave of tied or leased options is interest rates. These strategies work very well in a high rate environment. If the real estate investor can get another loan at a lower rate, he can pay more for the property. In a low rate environment, like the one we find ourselves in now, investors can lock in rates with similar or better new loans than taking out a seller’s loan. There is little incentive to pay more for a property. The Fed has already committed to keeping rates low through 2021.

With all of that said, I don’t want to discourage you from keeping an eye out for these buying strategies. As many of you know, I’ve done over a hundred of these and that’s how I got started as a real estate investor. I really love these strategies. Both work well in any market and there will always be sellers for whom this type of offer is perfect. I just wanted to share why I think investors hoping this is the next big thing might be in for a long wait.

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