Since early 2006 to the present our financial system in this country has been in disarray and significantly crippled. Hundreds of banks have already failed and been closed; hundreds more have been forced into mergers (shotgun marriages) with stronger banks; hundreds more are operating as “zombie” institutions-they look like banks and they try to act like banks but they cannot make loans. Most of the “too big to fail” banks based in New York, California, or Atlanta appear to be operating normally, but the truth is they are not lending to the “little guy”. They are lending to the publicly traded corporation primarily. In plain English, getting a loan from a bank for the average borrower is next to impossible.
– Don’t operate your business or don’t do the transaction
– Pay all cash-don’t borrow
– Borrower from non-banks-friends, family and private lenders
– Do transactions using non-traditional methods-creative financing
JUST WHAT IS “CREATIVE FINANCING?
Creative real estate financing is an all-inclusive term. It essentially means arranging a transaction whereby any and all types of financing is considered to do the deal. Most or all of these types of financing happen to fall outside of the standard government mandated banking guidelines and restrictions. The financing vehicles considered do not conform to Fannie Mae, Freddie Mac, FHA, VA, or other HUD guidelines.
Examples of “creative” financing vehicles are: Private Party Financing, Seller Financing, Bank lending that does not comply with the HUD guidelines, Exchanging Equities, Lease with Option Financing, Contract for a Deed Financing, Equity Sharing Financing, Home Equity Financing, Credit Card Financing, and any combination of the above.
EXAMINING “CREATIVE FINANCING” TOOLS INDIVIDUALLY
Of all of the various types of creative financing tools mentioned above the most common and the most easily understood is private party mortgage financing, which includes seller financing.
The underlying concept is that the bank is not involved in the transaction and the private party lender takes the place of the bank. There are many advantages to removing the bank form the transaction. The main benefits are:
– Qualifying (accepting) the borrower is the decision of the private party
– Qualifying (accepting) the property is the decision of the private party
– The interest rate and the monthly payment is the decision of the private party
– The maturity date of the loan (balloon date) is the decision of the private party
– The down payment amount is the decision of the private party
– The time necessary to close the loan is much shorter
– A valuable, long-term stream of income is created
– The interest earned may be higher than any other available investment
All of these benefits, when combined, make private party mortgage financing a very powerful tool to cause a transaction to close that otherwise would have failed. And, additionally, they may offer investment benefits not elsewhere available.
THE OTHER SIDE OF THE COIN
Now, after examining the benefits of private party financing, we should, in fairness, look at the negative aspects. No tool is the perfect tool for all jobs, and no type of financing is the perfect type of financing for all transactions and for all people.
The negative aspects are summarized below:
– Emotionally, not everyone is comfortable waiting for monthly payments
– Emotionally, not everyone is comfortable with financial details
– Emotionally, not everyone is comfortable with a risk of loss
– Emotionally, not everyone is comfortable doing something new
– Practically, a lump-sum of cash may be needed now
MAKE IT A WIN-WIN TRANSACTION
It is very important to honestly and objectively evaluate each part of the financing transaction. The goal is to make it be a win-win transaction for both parties. Are the personalities of the borrower and the lender compatible? Has the note and mortgage been properly structured so that there is a high probability that the borrower can meet his obligations over the term of the loan? Has the lender anticipated accurately his future need for cash flow income and lump-sum income?
As with most important things, the devil is in the details!
In subsequent articles we will examine some of the other types of “creative financing”.
Lawrence Tepper specializes in:
PROMISSORY NOTE SERVICES, VALUATIONS AND BROKERING EXPERT WITNESS AND EXPERT CONSULTING SERVICES OFFERED