S.E.C. Real Estate Observer

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Able walked into our office to hear about how to exchange. He had bought a promotionally sold lot in a distant “recreation” development on terms a few years back. He paid $11,500 for the lot and still owed $7,218 and was paying $115 per month including 7% interest. A quick check of its sale value found the lot would sell for $4,500, more or less, so Able had a negative equity (not uncommon in today’s market), although no one discussed those facts with Able.

Baker had walked into our office a couple weeks before and listed a duplex that was negative cash flow on the net income vs. the existing mortgage of $48,000 in the amount of $350 per month.

It was proposed to Able that he might trade his lot equity, subject to its existing loan, for the equity in the duplex and that if he did all the management, maintenance and upgrades with his own time and effort, the duplex would only be negative cash flow about $100 per month. In which case, maybe future rent increases, lowered payment from a refinance, or some other windfall might get him to break even and the project would be a forced savings program for his young family with the renters paying down the loan over time to gain him a bigger equity, regardless of what appreciation might happen.

There was no cash to pay commissions, but Able had an old “dirt” motorcycle he presented the broker for his fee, which worked perfectly for the broker’s Christmas present to his son. The duplex owner had a time share he was tired of maintaining, so that was the broker’s fee from him.

Able’s lot was originally purchased with seller carry back loan in California which does not allow personal liability, but only seeks the collateral (just for such circumstances). Baker gave a deed in lieu to the note holder on the lot and saved $350 per month out of pocket + $945 per year maintenance fees on his timeshare (= definance).

Able was enthusiastic to use the duplex to teach his kids property management and equity growth as he gave the equity to them for their college fund, but they had to run it themselves (ala Tom Peterson, S.E.C., whose kids are now real estate tycoons). He made them do carwashes, yard work and bake sales to pay the closing costs. He agreed to pay the $100 negative cash flow, but no more. If there was more negative, they would have to contribute from their allowance or from other earnings. He kept the title to get the depreciation, but the kids got a contract to own it for $1 when they needed the money for college.

Baker used the extra cash flow from his salary to pay down his credit card debt and was free and clear inside of 18 months, and then was able to qualify for a refinance on his home to raise funds to invest at higher yield than the 4% his new home loan was costing.

The broker was creative, but not successful, so he lost the time share to his ex-wife, and his son crashed the dirt bike and ended up in the hospital. He was, unfortunately, uninsured and now the broker stands by the freeway entrance holding a sign that reads “Will develop real estate for food.”