Misc. L/O + Sub. to Questions - Posted by Chris O. (WA)

Posted by JohnBoy on January 31, 2002 at 13:07:52:

I agree. I like having the option price already set. If the area was jumping up fast in appreciation then just adjust the option price accordingly to what the percentage of inflation in the area is jumping up by.

The only time I would base the option price on an appraisal is if it involved a piece of land where I got an attractive option fee and the option was good for several years down the road. Then I would set the minimum option price to be paid or based on the appraised value at the time of exercising the option, which ever is more.

Maybe if I were in CA. where property was jumping up by $100k or more within 12 months then I would consider basing the option price on the appraised value or a minimum set price, which ever is more. I’ve never seen that kind of appreciation in my neck of the woods so just adjusting the option price accordingly works best for me.

Misc. L/O + Sub. to Questions - Posted by Chris O. (WA)

Posted by Chris O. (WA) on January 30, 2002 at 03:30:18:

Few questions about leasing a subject to property with the option to buy.

  1. Must you deduct the non-refundable option consideration from the option’s buy price when the lease option is exercised? Are most deals done this way? Why in the world would you?

  2. In situations where the T/B choses to execerise their lease option wherein the specified buy price is below its current FMV, is there a way to benefit from the appreciated value of the property? Watching a tenant get ready to exercise the lease option for a property you own with intentions of turning around and selling it for appreciation profit sure would be painful.

  3. You’ve leased this subject to property and are forwarding your tenants’ payments to the original owner for him to pay off the property’s mortgage, and are keeping the difference–the cash flow. The tenant exercises the lease option and now owes the lease option buy price. How is this transacted? Are you suppose to help the seller get financed? When they get the required sum to buy the property, is the check made to you, then you forward the balance of the original owner’s mortgage to the original owner, or is the check made to the original owner?

  4. If you can find tenants to lease the subject to property from you, in time enough to keep the holding costs down, why can’t the owner of the property do this himself? How is it possible for the middle man–us, the lease option offerers–to exist? Surely property owners have heard of classified ads too. Let’s say it’s because the tenants can’t get financed. You obviously don’t screen potential leasers like banks do and are able to thereby help them out. If they have intetions to exercise the option ever, then how are they going to? (Not that it matters much to me whether I sell the property or continue to lease it. I just want to understand the process here.)

  5. Is there a term for what I refer to as “the original owner”, being the person you acquire the property from who is responsible for paying the mortgage? Any other terminology I could use to simplify?

Re: Misc. L/O + Sub. to Questions - Posted by JohnBoy

Posted by JohnBoy on January 31, 2002 at 05:02:49:

#2. We don’t worry about the tenant/buyer getting any equity build up. If they do then great for them. But since we can usually set the option price for about 10% above the current FMV we are getting top dollar for the property. Unless the value was to increase more than 10% within a year, they wouldn’t be getting any appreaciation on the property. Another reason we agree to deduct the option consideration from the purchase price if they exercise their option.

If you have a property that is worth $100k today and you lease optioned it for one year setting the option price for $110k, getting $5k for option consideration, then they would need to come up with $105k in a year to buy the property if we deduct the $5k option money from the purchase price. How much more could a property be worth in one year if it is worth $100k today?

The other problem with setting the option price to be based on the appraised value at the time of exercising the option is, what if the property value goes down? Then you’re stuck with selling for less money than what the property was worth a year ago. If you owed more on your end then you would have to come up with cash out of your pocket just to close with your tenant/buyer.

Also, you should only deal with tenant/buyers that have a fair chance of being able to get financing within the term of your agreement. If they don’t have any chance at all, regardless of what they did over the next year or two, then don’t even L/O the property to them. You don’t want to get a bad reputation for taking advantage of people by taking their money while fully knowing they could never get a loan.

#3. When you buy “subject to” the original owner (the seller) is no longer in the picture. YOU now OWN the property subject to the existing financing. The seller remains liable for the loan, but they have no ownership rights left in the property. Since the seller no longer owns the property you wouldn’t send anything to the seller. You would be making the payments directly to the bank on their loan.

When your tenant/buyer exercises their option, their lender will wire the money to the title company where the closing is to take place. The title company would then cut checks made out to the lien holders that have liens against the property so the buyer can get clear title. After any lien holders are paid then anything remaining is paid to you.

#4. We do screen tenant/buyers like banks do. We just aren’t as strict as banks when it comes to approving them. Banks approve their buyers to get financing today. We approve our buyers based on the ability to be able to get financing within 1 - 2 years from today. That allows are buyers to repair any credit problems, establish job history, rebuild credit by paying on time for a year or two, etc.

#5. Seller.

Re: Misc. L/O + Sub. to Questions - Posted by Chris O. (WA)

Posted by Chris O. (WA) on January 30, 2002 at 23:57:31:

Thank-you all for your contributions in answering me. I sincerely appreciate it all. Your guys’ patience and willingness to tolerate the unlearned makes the opportunity of real estate investing incredibly exciting for me. I can’t begin to express my gratitude! :slight_smile:

Chris O.

Re: Misc. L/O + Sub. to Questions - Posted by JOE M.

Posted by JOE M. on January 30, 2002 at 17:34:50:

totally off the subject Chris but i was wondering where in WA you are. If you’re near Seattle theres a great REI Club thats meets in Mercer island once a month. If you havent been to it yet that is.

Re: Fourth question - Posted by Brent_IL

Posted by Brent_IL on January 30, 2002 at 17:07:25:

Tim and Jim have already given salient advice. As I was pondering how to answer an email I had received, it occurred to me that things that are obvious to most of us who read the main forum on CREonline are like a foreign language to those who don’t live, sleep and breathe creative real estate. For example, I have to force myself to cut back on the jargon so I can communicate with my family.

The property owners are like my family. If they had the subject knowledge and the inclination to act in a certain way to solve their problems, they would have done so and wouldn’t be talking to you. The sellers that you come in contact with will always act in a way that they perceive to be in their best interests at the time even if it is ultimately self-destructive. Your job is to show sellers that your way is the only way.

Re: Misc. L/O + Sub. to Questions - Posted by Jim Kennedy - Houston, TX

Posted by Jim Kennedy - Houston, TX on January 30, 2002 at 15:41:52:


Tim Fierro has given you some very good answers to your questions. I’d like to comment on his answers to questions #2 and #3.

#2. While I have never done it this way, you can draft your lease/option so that your tenant/optionee’s buy price is determined by the fair market value at the time that he exercises his option. In fact, Bill Bronchick describes this in his course.

Personally I think the main idea of an option is to SET the future price NOW. But who am I to dispute the validity if others are able to make it work to their own advantage.

#3. Another way to structure the monthly payments is to set up an escrow/collection/disbursement account. That way both parties are protected.

Hope this helps.

Best of Success!!

Jim Kennedy,
Houston, TX

Re: Misc. L/O + Sub. to Questions - Posted by Tim Fierro (Tacoma, WA)

Posted by Tim Fierro (Tacoma, WA) on January 30, 2002 at 08:33:29:

1)No, you don’t have to. Varies from deal to deal. Doing it can be an incentive.

  1. I don’t think so, they have a price already agreed upon where you have to commit. Not too painful since you have already been paid the option, the monthly cash flow, and the risk is now gone since they are now excercising their option.

  2. It would be safer for you to pay the mortgage instead of the original owners just in case they decide to pocket the money. Your deal with the original owners is the SubjectTo, your deal with the lessor is another separate deal in the Lease/Option. You should be looking at a double closing to have both transactions complete at the same time, day.

  3. They may not have any knowledge of REI, or they may not have time, or the inclination to do so. By being able to use your knowledge, time, and inclination to make a profit; you exist. :slight_smile: At some point you need a finality to the transaction, an exit strategy.

  4. Seller. You can search for Glossary Of Real Estate to get an idea of what words are commonly used. And you could always ask here for a definition.

Re: Misc. L/O + Sub. to Questions - Posted by Jim Kennedy - Houston, TX

Posted by Jim Kennedy - Houston, TX on January 31, 2002 at 09:23:21:

Hi JohnBoy,

Regarding question #2, as I pointed out in my prior post, Bill Bronchick mentions in his course, the possibility of setting the option price based on the appraised value at the time the option is exercised. He talks about doing this in rapidly appreciating areas. In those deals, he also suggests putting verbiage in the contract that limits the lower limit of the option price specifically to avoid having to sell the property for less than you owe against it. Of course, if the FMV goes below the “no less than” price, the T/B would probably not exercise his option.

Again, I’ve never done it this way. All of my lease/options have a definite strike price. Personally I think the main idea of an option is to SET the future price NOW. But then again, I’m not in a market that’s experiencing outlandish appreciation – just a nice steady increase.

BTW, I’m looking forward to seeing you again in Atlanta.

Best of Success!!

Jim Kennedy,
Houston, TX

Re: Misc. L/O + Sub. to Questions - Posted by Chris O. (WA)

Posted by Chris O. (WA) on January 30, 2002 at 23:43:37:

The Northgate area of Seattle is where I’m at. For two weeks I’d been trying to get someone to cover my shift at work so I could get to the REAPS meeting, which would have been my first. Yet no luck. Next time I’ll be there, for sure. You’re a regular attendee, Joe?

Hope to see you there,
Chris O.