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Creating a Good Note to Sell

cash5Many sellers of commercial properties and high end homes are turning to seller financing in today’s market.  The financing just isn’t as available for these properties the way it used to be.

Here is a recent email I received:

“Dear Dawn,

My name is John, and I believe what I am attempting to do is over my head.  I have a potential buyer for my commercial property, and they seem genuinely interested. They are a church group.

I want to structure a note that will attract a note buyer such as you.  They are asking me what interest rate I would charge for a 30 year mortgage.  I don’t have a clear answer.   I do know from my experience commercial mortgages are usually 25 years.  I don’t want to blow this deal, by giving an unrealistic answer.

I have the property listed for $995,000 selling price is $920,000 with 20% down.  Currently I owe $105,000 on the property.  I want to be able to live off the income from this property, I also want the option to sell the note, that is why I feel it is so important to have the note structured so it will sell.

My thoughts are, amortized over 25 years due in 10 between 7.5% & 8.25% interest,  or 7% interest amortized over 25 due in 5, or a floating rate for 30 years.  You may also want to talk to the client and negotiate the loan.

I look forward to our phone consultation,

Sincerely, John.”

When we get on the phone this week, there are a few questions I’ll need to ask him.

I’ll need to know how likely it is that he’ll need to sell all or part of his note for cash.  If he’ll need or want a lump sum any time within the next 12-24 months, then we’ll have to be sure to structure 2 notes (a 1st and a 2nd) instead of one.

This deal represents a few challenges:

1. It’s commercial paper –  discounts are going to be higher to offset the risk.  Even though the collateral is a very nice small office building in Buena Park, commercial is considered much riskier than residential paper.

2. There’s only a 20% down payment.  35% is a common down payment required for traditional commercial purchases today.  A note buyer will feel like the protective equity (the buyer’s skin in the game) is a little thin at 20%, and price accordingly.

3. They want a 30 year mortgage, and the note would be a lot more valuable with a 20 year amortization.

4. A church group will be occupying the property.  Most of the institutional buyers out there won’t even touch it no matter how good the paper or the collateral is.  Who wants to foreclose on a church?

That being said, I can still find a buyer for a relatively small 1st trust deed, even a ‘green’ one (without seasoning).  So, here’s how the deal might be structured for optimum cash flow, asset preservation and flexibility:

Purchase price: $920,000
Down payment: $184,000
First 40% note: $368,000
Interest: 8%
Amortized over 20 years
Monthly payment:  $3,078.10
A note buyer might pay as much as:  $250,000

Second  40% note: $368,000
Interest: 8%
Amortized over 30 years
Monthly payment: $2,700.25
This note would have no value on the secondary market, so he would just keep it for cash flow.

Always consult with your CPA, tax attorney and/or financial advisor before selling property or paper.

Dawn Rickabaugh is a RE broker with expertise in seller financing and RE notes (trust deeds).  www.NoteQueen.com  626.641.3931 dawn@notequeen.com.

September 3, 2009

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Dawn Rickabaugh


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