Creative Financing

In this article we are going to discuss Creative Financing, you'll learn about the different variations as well as Pro's & Con's to each.

Our definition of Creative Financing is:

Any type of Financing that falls outside of the Conventional “norm”.

The 3 we will be focusing on today are as follows:

• Vendor Financing (VTB)
• Option to Purchase
• Private Lending

Vendor Financing:

Is a real-estate agreement in which the seller handles some, or all, of the mortgage proceeds instead of a financial institution. Instead of applying for a conventional bank mortgage, the buyer signs a mortgage agreement with the seller. If it is a VTB for only a portion, then the conventional bank will want to know the details of the VTB and will use that information when calculating the debt on the property. That “split” financing will usually have a negative impact on the total amount of proceeds the conventional lender will give you as the debt is based on what the property will service.

Vendor Financing As The Buyer:

Pros

• Less Underwriting and Easier Qualification
• Negotiable Terms
• Lower Closing Costs
• Ability to Close Faster
• Higher LTV (Loan to Value)

Cons

• May have a Higher Interest Rate or Less Desirable Terms
• Payments may not be Reported to a Credit Bureau (If they are, it can help improve your credit)

Vendor Financing As The Seller:

Pros

• Can assist in Selling the Property faster, even in a Down Market
• Is a form of Passive Cash Flow and Tax Deferral
• Can be used to grow an Investment or Retirement Portfolio
• Reduces the Tax Burden of Capital Gains and Depreciation Re-Capture over Several Years
• Is Secured by the Property, so if the Buyer Stops Paying you can get the Property back

Cons

• Specific Loan Underwriting and Loan Servicing Rules to Follow.
• Risk of Default which can hold the Seller Responsible for Unpaid Taxes, Liens, Poor Property Condition, and the Cost of Foreclosing.

Option Agreement:

Is an agreement between two parties to facilitate a potential transaction involving an asset at a pre-set price and date. Option Agreements offer the right, but not the obligation, to purchase or sell the underlying asset.

Pros

• Secures your Ability to Purchase the Property at a Future Date.
• If the Market Price becomes Undesirable, you aren't Obligated to Close.
• If the Market is up at time of Close you only Pay the Agreed Upon Purchase Price.
• Can Buy Time while you work on getting Conventional Lending in place.

Cons

• Loss of your Deposit if you don’t Complete the Purchase.
• Loss of any Time/Money Invested in the Property.
• Typically, you have Obligations to Meet in Order to Exercise your Option to Purchase. If you Fail to meet Any of those Obligations, you may Forfeit your Right to Purchase.

Private Lending:

Is typically Money that is Borrowed from a Private Lender which is either Secured, or Unsecured, against an Asset. It is almost always done with a Promissory note at Minimum.

Pros

• Loan Proceeds can be used for Anything
• Loan does not show up for other Lenders
• Can be Unsecured or Secured against other Properties
• Easier to Acquire
• Terms are Flexible and Negotiable

Cons

• Higher Interest Rates – Typically 10% - 20% Annually
• Short Term – Typically less than 12 Months
• Easier to Overleverage if not careful
• Can have Negative Cashflow Impacts on a Project

Interested in learning more?

Disclaimer: