Tuesday, May 15, 2012

Proof of Funds - What is the deal?

It's a warm and beautiful sunny day outside right now but I am itching to write about this topic!  As we meander our way through our busy days in our real estate investing lives, we routinely run into people who are very focused on receiving proof of funds (POF) almost immediately, before even creating a relationship when discussing assets they apparently have for sale.  Let's examine the purpose of a POF and what the other party claiming to have assets for sale really is accomplishing by requesting this information.

First off, let's be very clear..........real sellers do NOT ask you for a POF immediately before allowing you to examine the asset.  What I mean by this is that if the seller has control of the asset, they will never ask you for a proof of funds up front before you have even had an opportunity to see the address of the asset, let alone the financial details concerning the same property.  In most cases we are asked to sign a non-circumvent, which is completely fine and that in itself should be sufficient to allow one to make a preliminary examination of the underlying asset and it's economic feasibility for potential purchase.  Here's a simple analogy:

You go into the car dealer's showroom to look at a brand new Ford or Honda.  You talk to the salesperson and they say, "Oh, you want to look under the hood of that one there? know that you must provide us with a bank statement showing us that you can afford to buy that car before we allow you to open the hood."  What a ridiculous request huh?  Just about everyone would be taken aback by such a request or even offended, and that scenario would likely never happen.

It is exactly the same way with the seller of a real estate asset.  If they own it or control it, they should have absolutely no problem in allowing any potential purchaser to review, analyze and inspect the asset.  If they have a problem with this and are asking for a proof of financial capability up front, then this is the sign of an amateur, not a professional and most likely, they do not control the asset.  That means we are almost certainly wasting our time with that person.  DON'T WASTE YOUR TIME!!!  Time is very valuable and we can't get more of it, so why waste it with someone who is an amateur?  In almost 99.9% of these cases, you will either not see anything worth buying or even not see anything to look at!!  In the meantime, you have potentially shown your cards by offering the proof of funds.....not a good approach.

The purpose of a POF is to show the seller that you are real and can follow-through with the transaction without having to obtain a loan.  With a real seller, POF is never asked for with very rare exceptions, up front.  Typically, an LOI may be necessary to obtain all relevant documents to allow a thorough preliminary due diligence to determine the financial viability of an asset.  In some cases, an LOI isn't needed either, and an open approach to allowing an asset examination takes place.  This is the sign of a professional and real seller.  POF is usually required after the execution of a PSA (Purchase and Sale Agreement).  At that point, there is absolutely no problem in asking for proof of financial capability and it should be made readily available to the seller upon request.

So, the next time you run into someone asking for POF up front before you have even inspected their "engine", tell them that you will provide them with the POF if they will prove to you that they have provided something worthy of purchase and not junk or nothing at all.  They should at least meet you half-way, and if not, then just do the right thing and walk away and save yourself a great deal of wasted time.

Have a productive and amazing week....until next time.

Saturday, May 12, 2012

Non-Performing Notes (NPN's) - Where's the money?

After a rather long and successful trip to China, I am back in the saddle so to speak!  I'm glad to be back and wanted to cover a topic that seems to be problematic for people new to real estate investing.  First of all, non-performing notes (NPN's) are non-performing to the financial institution that owns the note.  They can become a star performer for you if you know what you're doing and know where to find good ones.

First off, let's define what a non-performing note is:  It is a note (in this case we are discussing only real property but it can apply to other asset classes such as credit cards, vehicles, other debt etc.) on real property that someone is either not paying according to the defined agreement with the lender and/or the value of the property is LOWER than the current unpaid balance (UPB) of the note.  If the value of the property is less than the UPB, and the property owner is paying as agreed, this is still considered a non-performing note to the lending institution.  

In many cases, in today's economic climate, the property value is lower than the current UPB.  Because lending institutions are hampered by the number of non-performing loans they have on their books, they are in various modes of motivation, interested in selling these notes to investors to "clean-up" their books and will sell for a discount in many cases, especially when they know that the property value is far below the UPB.  This is an excellent opportunity, but you need to understand the financial institution's level of motivation before placing an offer.  

Ideally, going direct to the source is the best option, but this requires extensive marketing, and relationship building.  Can you afford to do that?  Do you have or will you make the time to develop these relationships?  Regardless, you will need to develop relationships with individuals who can assist you in obtaining lists of non-performing notes in states and cities that you are interested in doing business.  These can be remote, or can be in your own backyard.  The financial institution doesn't care where you live, they only care if you have the cash to close.  You have to care whether you can make money on the deal, so do your homework and understand the market you're going into, the lien position of the note (ideally, first position), the underlying asset current market value, and depending on your exit strategy, understanding the background of the borrowers credit rating.  So make sure that you have your financial backing in place prior to jumping in these waters.

Identifying a good note for you requires as mentioned above, an understanding of your market, the neighborhood, and especially current comparable property value.  Do yourself a big favor and do NOT use BPO's (broker price opinions).  An opinion isn't worth the paper it's not written on. Get real comps based upon criteria YOU input.  Find a great source and use it.  That could mean using proprietary software and/or getting them straight from a broker / agent source that you've developed a relationships with.  It's up to you to make the decision on how to best get this information.

Once you have determined a motivated source for the purchase of non-performing notes, you do your comparable / financial analysis of the underlying asset, you now have an idea of how much the property is worth.  Clearly you want to buy the NPN for well below the property value.  You must know your exit strategy before buying.  How will you dispose of the note once your purchase it?  You have to know that going in, not afterwards.  You have choices of exit strategy.  If the current owner is paying as agreed with the bank but the situation is that their property is worth less than what they currently owe, you can make the note performing by negotiating with the existing property owner to reduce the loan amount to them....for example:

Current UPB:                          $150,000
Current Market Value of Home: $125,000
You buy the note for:             $  50,000

You negotiate with owner to agree to pay say $90,000 on a new note instead of the original $125,000.  Why?  Because this is a win-win....The owner of the property now has a performing loan on their property (as long as they pay as agreed).  You have done them a favor, right?  Yes you have, but you've also helped yourself.  You can then sell this note to another investor for $70,000 for example, and pocket the difference ($70k - $50k (amount you paid originally) = $20k).  You have sold a $90,000 note for $70,000 giving the buyer of your note a $20k equity kicker, plus they can now collect monthly P&I payments (principal and interest).  You win, the property owner wins and the investor who buys the note from you wins. Of course there is more due diligence involved, like understanding the condition of the property, the borrower's credit history etc., but you get the idea. 

This is just one way of exiting the deal.  There are other options that we will discuss at a later date.  There is no such thing as a loss of money, only a transfer of wealth....stand in it's path and collect your share.  Until then....carpe diem!