Comprehensive Guide to Real Estate Investing (eBook)

Chapter 2

Wholesaling

Real estate investing offers various ways for a person to become involved. Wholesaling is an excellent option as a point of entry that requires little or none of your own money. This strategy can generate cash fairly quickly and the concept is pretty simple. Wholesaling is when you locate a property and put it under contract with a seller (at a discounted price) and then you assign the rights to that contract to a cash buyer for a fee. Now even though simply signing a contract with the seller doesn’t make you the owner of the property, you still have contractual rights. Once the purchase and sale agreement is signed, you are now a principal party in that transaction. You do own the rights to the contract, which you can transfer to someone else for a fee. Wholesalers typically charge an assignment fee of between 5K and 10K per deal. Sometimes the fee may be higher depending on the price range of the deal.

How This Process Looks

The first step in this process is to find a property that you can acquire for a price that is below market value. Usually this only happens if you find a distressed property that needs to be renovated or a homeowner that needs help out of a situation. When you find a property that fits the criteria, you make the appropriate offer to the seller. If you and the seller come to a satisfactory agreement then you both sign a purchase and sale agreement. It is customary to give earnest money. If it’s a private seller, $10 or $20 will usually be sufficient. If purchasing through a realtor, the earnest money amount would likely have to be at least $500. Now with a signed contract, you are in control of this deal. Let’s say that you have a property under contract for 100K and would like to earn a 10K assignment fee from this deal. The objective now is to find a cash buyer who is willing to pay 110K for the property. When you find a cash buyer that agrees to your 110K price, you would then sign a one-page assignment agreement with the cash buyer. You would collect an earnest money deposit from your cash buyer that is much larger than what you gave the seller. Typically this amount is anywhere from $500–$2000. All signed agreements and earnest money deposits should be sent over to the title company or attorney, whenever they are received. At this point, you may be wondering, what happens if I don’t find a cash buyer to assign my contract to, by the specified closing date. Let me say this first, finding a cash buyer is fairly easy, especially when you have a good deal locked up, and we will certainly go into detail on how to find them later in the chapter. However, the length of your inspection in your agreement is going to be critical. I would say that you should have no less than 12 to 15 days for your inspection period. This gives you plenty of time to look at the property again (with contractors if needed) and to show it to other investors (cash buyers). During this inspection period, if you find a major issue with the property that perhaps you didn’t notice before, or you’re unable to secure a cash buyer, then you have the option to back out of the contract. You may even choose to renegotiate with the seller at this point, if you still want the property but just need the price to be lower to make the deal work. So let’s continue, you and your cash buyer have signed the assignment agreement and all paperwork has been sent over to the title company. The title company now prepares the documents for closing. Since the contract has been assigned to your cash buyer, they will be closing on the property and purchasing it from the seller instead of you. The buyer pays 110K as agreed and purchases the property. The seller receives 100K, which is what they wanted. Once that transaction is completed, then the difference of 10K is paid to you as an assignment fee, in the form of a wire transfer or check from the title company, and you’re done.

Alternative to the Assignment

We’ve covered the assignment of contract, but there is another way to complete a wholesale deal. “ The double close” is when you sign a purchase and sale agreement with the seller, then find your cash buyer who agrees to pay a bit more, and you sign a completely separate purchase and sale agreement with the cash buyer at the higher price. So instead of simply assigning the original contract, you now have two contracts in place.

After getting both purchase and sale agreements signed, you follow the same process as before. Send both agreements and any earnest money to the title company. In this case, all three parties (A, B, and C) will be participating in the closing. The wholesaler (person B) still won’t need to bring any funds to closing. Both transactions will take place back-to-back, usually within 15 minutes of each other with “single source funding.” This simply means the funds that the cash buyer brings to closing (110K) will be the only funds used to facilitate both transactions. So the seller gets 100K, and you get the difference.

Assignment vs Double Close

Assigning the contract is the preferred method for wholesalers, most of the time, for a few reasons. The first reason being that it’s less expensive. If you assign the contract to an end buyer to close in your place then they would take on any closing fees that are the buyer’s responsibility. This means you get your entire assignment fee because nothing is deducted. With the double closing, even if you get your cash buyer to agree to pay all the closing costs with the B to C transaction, you still will have some closing costs with the A to B transaction. In addition, assigning the contract is a simpler, smoother method. You don’t have to worry about two contracts, two closings, etc. Actually when you assign a contract, attending the closing for you is optional. The title company can simply wire your check, mail it, or you can stop in to pick it up any time after the closing if you choose. Now if assigning the contract saves you money and it’s a lot simpler, why would any investor ever want to do a double close? Well, there will be some occasions when the double close may be a better option. One of the main occasions for an investor to seriously consider doing a double close instead of assigning the contract, is when the assignment fee is a fairly substantial amount. Whenever you do the “assignment of contract,” the assignment fee is visible on the settlement statement. So the seller and the cash buyer can see exactly how much you made. Now theoretically, this shouldn’t be a problem because the seller and cash buyer are getting what they both agreed to. However, if they’re at the closing table and see your assignment fee in the amount of 20K, that may bother them slightly. Since you don’t want your seller feeling like they didn’t get enough for their house or your cash buyer feeling like they paid too much, it’s best not to have that high dollar amount printed right in front of them both at closing. Certainly, if you plan on using that same cash buyer often, you don’t want them to second-guess the numbers on every deal you bring them. Now, with a double close, because they are two separate transactions, neither party can see what your assignment fee is. Again, both parties know that you’re an investor and expect you to make some money, and the higher the overall price of the deal, the larger your fee will be. However as a rule of thumb, I would start considering the double close whenever an assignment fee is more than 10K. You have to use your judgment because sometimes it may be a good idea to do a double close with an assignment fee over 5K, especially if it took some hard negotiating to get the buyer or seller at the price they agreed to. It’s worth the extra fees to go with a double close, to keep everyone feeling positive about the deal they got. If you were supposed to make 15K on a wholesale deal and end up making 13K or so after the fees on a double closing, then you probably won’t be too disappointed with that. Now another reason a double close may be necessary is if you’re working with a title company that doesn’t like assignments. A title company will certainly make more money from a double closing than a single closing, so some may not do assignments for that reason. This is why it’s very important to specifically seek out an investor-friendly title company before starting this process. But if the title company you are closing with will not allow assignments for whatever reason then the double close is always an option. I do want to briefly touch on one more thing regarding the double close. Again, I do want to stress the importance of finding an investor-friendly title company or attorney. You may run across a title company that doesn’t do assignments nor “single source funding” double closes. The title company would prefer to have two separate sets of funds, one to facilitate each transaction. Of course, if you have the funds yourself, to close on the first transaction, until you get reimbursed along with your assignment fee on the second transaction, then this isn’t a problem. Now if you don’t have the funds to close in this scenario, there is a solution, albeit an expensive one. It’s called “transactional funding,” and there are several companies that will gladly do this. If you need funds temporarily to close the transaction, they will wire the funds to the closing company. They typically charge between 1% and 3% of the amount of the funds you’re requesting. (A few even charge 4%.) The funds are temporary and usually have to be wired back with interest after both closings take...