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October 7th, 2009 by Dawn Rickabaugh
Deadly Mistake #1: Take a small down payment, or none at all
Gosh, isn’t it amazing the price you can get for your property if you don’t ask for a down payment? You can make owning a home cheaper than renting if you want to!
It’s OK with me if you take a small down payment to sell quickly for the price you want . . . just don’t be offended when I offer you a small price for your note, or I tell you I can only buy a partial, or that I can’t buy it at all.
Why? Because the risk of default is so high. If things got tough, it would be too easy for the buyer to just walk away, because they don’t have enough ‘skin in the the game.’
And actually, if they can no longer afford the payments, then it would be wonderful if they would just walk away. But normally, they don’t. They wait for you to foreclosure on them. In California, that can take anywhere from 5-18 months, in other states it can take 2-3 years . . . ouch.
Sure, you’ll get the property back, but after how many missed payments, and after how many legal fees? And will the property be trashed, and/or will the market be even softer when you finally have possession again?
Accepting a small down payment all too often translates into financial loss . . . there’s just not enough of a financial buffer if something goes sideways. It’s like sitting on a porcupine and wondering why you’re not feeling so cushy and cozy.
SMART TIP: Take the largest down payment you can get.
Getting a 20% down payment will greatly reduce the statistical likelihood of default (and make your note much more valuable). Remember when that’s what it took to buy a property? A 10% down payment is usually acceptable for an owner occupied single family residence (O/O SFR).
A down payment creates Protective Equity. Protective equity protects the seller (note holder) from financial loss if the buyer (note payor) defaults.
The larger the down payment, the greater the instant equity a buyer has. Think of a down payment as the layer of cream on a fresh cup of milk. The thicker the layer of cream, the richer and tastier it is (and the more you’ll have to fight your brother for it).
If you get a 20% down payment or more, then you’ll have a note that’s worth holding or selling. It’ll be rich and tasty, and note buyers will fight each other for the chance to buy it (which translates into a higher price/smaller discount, right?).
If you’re going to take a small down payment, you’ll want to find a way to reduce or eliminate your exposure to foreclosure (or the risk that a note buyer will have if they buy your note).
Perhaps you’ll want to create two notes instead of one (and only sell the first), or you can see if the buyer has equity in other property that he would be willing to pledge as additional collateral. Or, you can use the Title Holding Land Trust to avoid foreclosure altogether.
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