S.E.C. Real Estate Observer

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Strategy:
An often overlooked approach to making transactions is the use of professional services as a source of down payment for a property.

This strategy has hundreds of possible variations. Examples of professional services could include legal fees, accounting, architecture, construction, electrician services, painting, and interior design. Frankly, the possibilities are endless. The approach typically (but not always) requires that the Seller be able to use the professional services in his or her business or personal life.

Commercial or Investment Example:

A group of investors owned a parcel of undeveloped land. The land was located on the outskirts of a medium-sized town along the only major highway. The Owners planned to act as the developer and develop the land themselves and sell individual sites for a substantial profit. They had planned sites for six commercial lots, all with highway access.

However, the land required substantial grading to be ready for sale.

Unfortunately, the group had a limited amount of cash to put toward the work. The utilities required would take all of their budgeted money. They were therefore short the money required for grading.

Solution:

One member of the investor group approached a large local Grading Contractor. The Grading Contractor owned a substantial amount of grading equipment and employed many people.

The Owners offered a simple proposal. The Owners would deed one of the parcels of land free and clear to the Grading Contractor in return for the grading of the entire site. Although the value of the individual site, once graded and improved, was higher than the expected cost of the grading, it would allow the Owners as Developer to avoid having to borrow money.

The Grading Company determined that it could do the work with its existing crew and equipment between the other planned jobs it had scheduled. It would also still be able to meet the Owners’ timetable.

The two parties negotiated an agreement and placed the deed to one of the six lots in escrow until the grading work was complete. In this way, both the Seller and the Buyer were protected in the event of any disagreement between the parties.

Summary of Transaction

Step 1: Transfer of Lots to Grading Company
Owners Place Deed to One Lot in Escrow for Grading
Grading Company  Performs the Grading Work on the Entire Site
Escrow Company  Releases Deed to Grading Company
Owners – Sell Remainder of the Lots Developed
Owners – Make a Profit on the Sale of the One Lot
Grading Company – Makes a Profit by Obtaining a Lot Worth More Than the Cost of the Grading

Benefits

Benefits to Owners:
Owners Receive Grading Work on the Entire Property without a Cash Outlay
Owners Make a Profit on the Sales of the Remaining Commercial Lots
Owners Complete the Job without Taking a Loan

Benefits to Grading Company:
Grading Company Buys Commercial Land at Substantial Discount
Grading Company Uses Existing Overhead Costs for Purchase
Grading Company Discovers a New Way to Put Crews to Work in Slow Times

Key Points:

Using professional services as a down payment, any Buyer with valuable skills can parlay them into a down payment on real estate. This can be especially useful when there is some excess capacity.

Imagine what could be used as a down payment: legal services, manufacturing capacity, excess inventory, recreational vehicles, or even gift certificates. There are endless possibilities. The only limit is your imagination.
The decision to accept the professional services credit as a down payment requires an analysis of the risk versus the reward of the transaction. In this analysis, you would look at the possible risks of the transaction. For example, the Buyer could simply walk away from the obligation to provide the professional services, or the Buyer may be unavailable when the Seller of the property needs those services the most, or the two might have a disagreement concerning the quality of the services being delivered.

A potential Seller would compare those risk factors to the projected rewards. For example, a quick sale may be more important than the total price, the expected price discount required to sell the property conventionally may be too high, or the cash needed in the transaction may be necessary for a future financial requirement.

Once the Seller evaluates the risks and rewards, the Seller will be required to make a decision whether to do the transaction in that form or not. That judgment call by the Seller depends on many factors, including the reputation of the individual providing the professional services, how the parties know each other in the first place, and even the nature of the local market.

There are many ways to reduce the risk in the transaction. The Buyer providing the professional services might provide additional collateral to guarantee the performance of the services. A third party could guarantee the performance. Depending on the circumstances, the Seller might place the deed to the property being transferred into escrow until the professional services are provided.

The thinking in this type of transaction can be expanded to include many different examples of services that could be used as a down payment. That expanded thinking can dramatically raise the number and profitability of Seller transactions.