Now that we have the basics of an installment contract let's look at how to implement this strategy and where we can find a deal. Let's look at this from the the buyer's point of view first. The best way to promote your deal is to know and use the advantages to the seller.

First and foremost are tax advantages. An installment contract will provide interest income that will usually be taxed at a lower rate than his gains on the sale. The best aspect is that the gain is only taxed as it is received. In the early years of an amortization very little principal will be paid. What's the seller to do? If he sells a property for cash with years of appreciation and a low basis taxes can eat up a significant amount of his funds. Instead of paying Uncle Sam up front, principal amounts remain in the deal accruing interest over a longer period.

Next is the analysis of the seller's opportunity costs. What the cost really is between taking one option over another. If the seller sells for cash, he loses a lump sum to taxes and now has the opportunity to invest or spend the cash received. If the seller sells on an installment contract he will have the same tax issue as the cash transaction for any down payment but the lion's share of his equity will be invested in the contract. If you look at the amount the cash transaction will produce at current rates in any investment, it will generally not touch the return the seller receives from the installment deal. Leaving these tax dollars in to accrued interest is a much better deal financially. If he does not choose the installment deal, his cost is the difference between the two alternatives. Knowing this can be an advantage in selling your deal.

Consider safety for the seller. This is where you really need to sell yourself and what you do to convince the seller that his property is really sold. Give examples if you can of successful deals. If it's your first deal, stress your expectations and goals, keeping them very realistic. A conservative seller will likely be scared off by a new investor that talks about the millions they will make in three years! Simply telling them that you expect to be investing on a full time basis and that you are positioned to provide your full attention to the deal will sound alot better than pie in the sky. If your personal credit is not up to par consider doing your business in an LLC and stress the good payment history of the company. Keep payment records of to establish evidence of good credit in your company name as a new company will not have a credit rating.

Then, find sellers that will benefit from your offer. Properties that have been listed for more than 120 days are prime targets for an installment contract. But most properties that I have purchased on an installment basis were not even listed for sale, the seller didn't even know they wanted to sell!

Landlords are fertile grounds for an installment sale. Especially those who are getting up in age and are trying to find ways for more free time or thinking of setting up their estate for retirement.

Consider what a landlord has to do. Property management tasks can be trying and problematic. A landlord that has just evicted a tenant can be really tired of evictions, cleaning, advertising, interviews and collections. What is the landlord really earning from his these tasks. Consider a $75,000.00 rental property that rents for $775.00 a month. A 3% vacancy rate is excellent. That's three weeks vacant in two years. That's also $23.25. Let's assume taxes at $775.00 means $64.58 a month for taxes. Insurance can easily amount to $37.50 a month. Assume that maintenance is really low since the property is functionally in good condition, but has deferred maintenance, like painting or a roof. Either expensing or setting aside maintenance costs of 5% is $38.75. Debt service can be covered by the installment contract. Properties that have been held by these older landlords may well have been depreciated fully or offer little tax savings from rents in later years depending on the method used. What does this amount to?

In the absence of any mortgage payment required the landlord has $164.08 a month for expenses on an accrual basis. That leaves $610.92 a month. Roughly 15% of monthly rents goes to expenses and this is well within the norm.

If the landlord has held this property for around 15 years and a mortgage exists, it's like the rate on the mortgage is 10% and the same property was probably purchased at about $60,000.00 with a 20% down payment left a beginning loan amount of about $48,000.00 and a payment of principal and interest at $421.23. So let's assume $189.69 that the landlord puts in his pocket.

Your contract asks for 100% financing (but a 10% down analysis is later) at 8.50% amortized for 30 years with a five year balloon payment will give the seller $576.69 a month. With that mortgage the landlord puts $155.46 in his pocket. With 10% down his monthly installment income is $57.67 less per month.   

Now you can push what ifs around all day and assumptions here are not an actual analysis since we don't have real numbers to work with. Tax rates, tax basis and the seller's use of funds are not known. But his landlord duties earn him about $156.00 per month or about 2% of the market value of his investment! 

Now consider the little things, time driving to the properties, meeting people, paying personal property taxes for his business assets, looking for deals on paint, contracting with labor and contractors for repairs, and the phone calls. Now you can see why property managers need to work within the law of large numbers.

Buying on property or a small portfolio of rentals from a landlord who is about to retire can be a no brainier!       

Now, there are those who must have some cash out of the deal. The seller can sell an installment contract in whole or in part. Future payments can be sold at a discount to provide "cash now" as the advertisement goes. Attempting to build in a discount amount to compensate a seller can be done to an extent, but really by inflating the price you reduce the value of the contract from a collateral standpoint. Extreme care should be used when attempting to build in such concessions. 

Potential retirees are not the only prospect for an installment contract deal, but they represent a market that is ripe for the transition from property owner to financial contract owner/mortgage holder.

Other potential deals can be found in college towns, where parents have purchased a home for the kids to go to school for a few years and then intend to sell in the future. This properties are great for the Lease/Option that actually kicks in when the kids move out.

Another strategy is the pre-foreclosure market. If you establish a good working relationship with a local bank, you can pick up properties for as little as the back mortgage payments due and probably a small equity amount to the owner as an incentive to leave the property in good shape. While there are so many concerns with banks and their approval of a deal, they benefit from you stepping in. I have done this and some times simply assumed the existing debt.

While tax sales are popular with some investors, did you ever find the owner before a tax sale was conducted? While you can't always locate these owners, some will simply walk away for one reason or another, getting the taxes current and something out of the property is a much better deal for them.  

Stale listings on the MLS is another avenue to take. These will usually require money down since the Realtors need to be paid, but I have had them carry back part or all of their commissions, especially since they have had an opportunity to market the property. A bird in hand is worth two in the bush for any Realtor that can settle a deal quickly before the end of the month.

Remember when we talked about governmental influence on real estate? Zoning issues and areas identified for clearing or redevelopment? Owners of properties must disclose in a sale when there has been pubic notice given of any activity that may effect the value of their property. Sewer improvements were a favorite of mine. Sewer assessments are usually made on a square footage basis of the lot to be served. Property owners get nervous in an area where hills have to be blasted away for sewer lines since the costs go way up. These can be motivated sellers who may not have listed their property thinking that they would just have to bite the bullet. Making minor improvements on these properties is the key for a buy and hold strategy. It can be years in the future before a municipality can be in a position to extend utility services. In my area, sewer plans can be on the drawing board anywhere from five to fifteen years! Generally, bond funds will be available for property owners who can not afford to simply flip the bill or for landlords as such assessments can be a business buster.

Condemned properties are good prospects as well for the rehabbers or anyone building a portfolio. Getting to know city officials is is good idea and they can give you insight as to the time lines estimated for an area for redevelopment. Buying these properties from existing owners under an installment agreement can put you in a good position to gain cash flow and tax advantages until the property is converted.

Just a note on these last two issues. As a housing official, I have personally been involved in purchasing properties under powers of eminent domain. If you have a leased property, the government is required to move your tenant and pay additional expenses. Unless the condition of a property has really been neglected, it would be rather difficult for any government entity to acquire a property for less than was paid for it and the purchase price is rarely less than an amount owed. So, a little creative financing here with deferred principal amounts and balloon payments later on for short term financing benefits can provide a better deal for the seller and you if a property is marked for future acquisitions by a government entity.

Hopefully, these basic issues of installment contracts will assist you in the future as an investor. This topic will be touched on in more detail in the future, but this will wind it up for this year! More on marketing and doing these deals next year. Talk to you next year!

HAPPY HOLIDAYS TO ALL AND BEST WISHES FOR A NEW YEAR FULL OF OPPORTUNITIES FOR YOU AND YOUR FAMILY!

Bill Gulley                                                                                                ARI, LLC