We officially became real estate investors in May 2019 and I can’t believe how much we have learned along the way! It’s been quite an adventure, but so worth it. Each deal takes us to the next level. In our deal, Big Horn, we learned the power of private money. In all of the real estate books and blogs, you read a lot about using private lenders as a creative financing strategy to buy real estate with no money down, but that’s easier said than done. You are asking people to trust you with their money and let’s face it, how many people in your circle would be willing to lend several thousands to a new real estate investor? Now, I am not saying it’s impossible, but it requires some work. So, how did we pull this off?
After seeing what were doing with our real estate investments, we peaked the interest of some of Ryan’s friends. They were looking to diversify their investment portfolio and increase their passive income. They had cash sitting in a bank account earning pretty much nothing. Ryan mentioned how much we were willing to pay and they wanted to participate. At the time, we needed funds to purchase the Big Horn property cash and we already had $100,000 in personal loans with SOFI and Wells Fargo. We didn’t have much capacity to borrow using the conventional loans. It would also be too expensive, so we offered Ryan’s friend 12% APR with monthly interest only payments. This came out to be $200 per month. While 12% may seem high, this was better than the 15% APR loan with a $1,100 payment that SOFI was offering us. Also, these are short term loans (3-6 months), so we are compensating our lenders for this. On longer term loans, terms would likely be a little different.
In order to provide comfort to our friend and protect us all, we made sure to sign a formal lending agreement with personal guarantees. Ryan and I have various personal assets, high paying jobs and a good reputation which gave our lender friend comfort that he would be able to collect his money.
Given that this was our first time handling this type of transaction, we had to engage our attorney, Bryant Taylor, to help. They drafted a customized loan agreement template that we could use for all future transactions with private lenders.
Once the agreement was signed, we got ourselves our first $20,000 private money loan. Our friend got $200 a month and we got to buy the Big Horn property cash. It was a win-win. The best part is that friend number 2 then wanted to lend us an additional $15,000! The great thing about these private loans is that they do not show up on our credit report which helps us keep our credit score on point for mortgage applications and other business loans. Because these loans are structured to have only monthly interest payments, it also makes our monthly obligation much lower and sustainable while we are renovating the properties. Once the properties are refinanced with the bank, we can pay back our friends.
Fortunately for us, our friends didn’t want to get paid early. They preferred to keep the monthly interest payments going. Therefore, we used the proceeds of the Big Horn refinance to pay off the outstanding SOFI and Wells Fargo personal loans. This would increase our credit availability so that we can then level up our borrowing power.
Our focus right now is to secure additional lending for future deals so that we can make cash offers. This will increase our chances of getting better deals and higher returns.
How do we manage to have and pay for all of these loans? Ryan and I have solid income from our corporate accounting jobs. We keep our personal expenses to the minimum and live off one paycheck. This leaves us with at least $5,000 a month to put towards our investments. We never touch any of the income from the properties either. It all gets reinvested. We are also always looking for ways to increase our income and decrease our expenses so that we can invest more. In addition, we have also obtained several back-up lines of credit that we only use in the event of an emergency. All of these combined allow us to take on more risk. Our financial situation wasn’t as great when we started out, but as we’ve evolved we’ve had to make some trade-offs to be able to put us in the position we are in today.
2021 will be an important year for us. Our goal is reach a number of units sufficient to cover $5,000 net cash flow assuming no mortgages. We will then take a break from buying real estate so that we can aggressively pay down debt.
As you can see, the books, the blogs and real estate gurus were right. Creative financing is possible, but it might take some time before you can build a relationship with a private lender to take full advantage of this strategy. However, it never hurts to ask friends and family to see if they are interested in helping you launch your real estate investing career and make some money along the way.
On a final note, make sure to incorporate the additional cost of borrowing private money in your property analysis. Meaning that you should include the interest payments to private lenders in the calculations of your returns. You may realize that the cost of borrowing would make the deal unprofitable. This is key! You don’t want borrow more than the deal can afford.
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