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Today, David and Mike shares about the 3 option letter of intent. In this episode, they discuss why we stop using the letter of intent. To know more about the letter of intent check this out! You can learn a lot from this episode.
Things that will cover in this episode:
- The 3 option letter of intent
- Why we stop using the letter of intent
- Explain How it works
- Can you make the money above the discount?
Real Life Example:
ARV 150k x 70% DR – 27,000
MAO = 150K x 7 -27K = 78k 10K 68K
Sellers owes 90k
- The 3 option letter of intent
- Option 1: 68k Cash offer
- Option 2: 90k Sub to – Take Over
- Option 3: 100k – 10 years 0%/Pinciple Only
Mike: The 3-option letter of intent is what we are talking about today. We’re talking about why we stopped using it and why we don’t use it. So Dave, what is the 3-option letter of intent? What’s your take on it? I mean, my opinion was you would use multiple different options because often times as somebody who’s wholesaling properties, your cash offer would be low So again, your 3-option letter of intent, the idea was hey, let’s get some other ideas out there so that you aren’t just told no constantly, you know.
David: Yeah, I think there’s two reasons people use it Mike. One would be to make your cash offer look appealing, maybe or maybe not, I guess it could go either way. The other is if you really are seeking those other types of investment so if you’re looking to buy some sub-2’s or some owner finance deals, having multiple options for the sellers’ a great idea. However, me and you aren’t into that which is fine. It’s just not what we choose to do, it just seems like it’s not worth our time so when we offer those other offers, our cash offers’ typically the lowest offer so it kind of makes our cash offer not look so strong. I’ve used it on and off to be honest with you. I’ve used multiple offer, you know or multiple types of offers when making an offer in the past and it really is a great approach for those who don’t have much equity or you just know that their offer- your offer is going to be way below what they would be willing to accept but I personally like- don’t take- don’t like taking away from my cash offer cuz that’s our goal, right? I think it depends a little on what your goals are.
Mike: It is, and I think, I mean, my personal thing is kind of like what you said, is that we just- we did not really want to go after just like sandwich lease options or the owner finance deals because-
David: Sub 2.
David: Even with the- even without- Yeah, there’s- so like let’s talk about what these options or what these offers look like. Let’s start there, I think we kinda jumped in too fast.
Mike: So, and I think- exactly. Let’s cover the three option, really a letter of intent.
David: It’s a letter of intent with three options for a seller.
Mike: Yeah, you’re not sending three contracts saying I’ll do this, I’ll do this, I’ll do this. It’s saying hey, I’m willing to buy your property these different ways, right?
Mike: That’s what the 3-option letter of intent is. So, what are the most common three offers? One is the cash one, the second one is the seller financing or owner financing so if they can provide you terms.
David: Though they’re usually both owner financing I feel like. I guess it depends on what yours look like.
David: So, let’s talk about what ours looks like. It could be anything guys. Ours was a cash offer, it was an owner finance, short term with a balloon, I believe.
Mike: I think that’s what we tried.
David: And then it was an owner finance, long-term and the cool thing about the long-term one was it was principal payments. We didn’t even pay interest, there was no rate of interest. The short one I think maybe did have one, but you can remove that, you know.
Mike: Right, and like so why would somebody go for that? Well, the idea is okay instead of our price which would be low like our cash price, we would be like okay well pay you your price over 10 years, something like that.
Mike: So again, that’s where- that’s why you would use something like that or how you could justify it. So, why did we get away from it? One, I mean honestly people for the most part or at least in our experience, my experience, aren’t interested in that. Nine times out of ten, people want the cash, they wanna just be done with it. I mean, that’s my experience.
David: They want to be done with it.
David: Right. So, let’s do a real-life example. So, we get a property, it has an ARV of 150k, okay? It’s in a normal area so it’s a 70% discount for our discount rate.
David: Repairs are $27,000, I’m just going to throw a random number out there, okay. Let’s run through our MAO formula, MAO is going to be 150, got a calculator over there?
David: Times 0.7 – 27k
Mike: So, we’re at 150 times 0.7 is 105.
David: Okay, minus 27.
Mike: Let’s make it a round number so it’s easier to think about.
David: No, I like that it’s an off number.
Mike: Alright, minus 27.
Mike: Oh man, I messed it up. 105 minus 27.
David: 150. Oh, I’m sorry, 150 times 0.7. Didn’t mean to interrupt you.
David: 105 okay.
Mike: Minus 27 is 78.
David: Okay, so 78k will be what we’d be willing to pay for this property. Now, we would need to take a wholesale fee out if we’re wholesaling it. Let’s take the wholesale fee out.
Mike: Let’s call it 10k.
David: 10k, okay. 78k now becomes 68k, so that would be our cash offer on this house. 68k cash offer, okay? Now, if the owner of this property owes 90 grand and they don’t have any money to bring to the table.
Mike: And this is probably somebody who’s owned it for 15 years.
Mike: So again, that’s not uncommon for them to still owe a majority of the mortgage or the value.
David: Absolutely, so 68k is what Mike and I are willing to say hey, you know Mr. seller, we’re going to give you 68k today, we can close it in 2, 3 weeks, get this done but let’s just say that the seller owes 90 and they don’t have any money to bring to the table. So, this would be the type of lead that a multiple-offer situation may be in your benefit. If they are motivated to sell, however, they don’t have any money to bring to the table, but they may be interested in selling you the property at 90 grand, then there may be something on the table there. Now, Mike we wouldn’t normally pay 90 so why would all of a sudden, we be willing to pay $90? Something’s got to give right? We have to trade something in order for us to come up on our number from 68 to 90. So, that would be enter option 2, option 1 will be cash offer, enter option 2. So, how would you present that to the seller? Okay, you owe 90, we’ll pay you $90 but-
Mike: So, option 2 in my brain when they owe 90, I would want to go and do subject 2. I mean, that would be my option.
Mike: So, the value that they’re providing me, one is the house but then two is the fact that I don’t have to go out and get financing. So, my second option would be the sub-2.
David: I love it, that’s what I would do.
Mike: I’ll take over your payments. Mister seller, you can walk away from this house, I’ll take over the payments and you don’t have to worry about it anymore.
David: Okay. The cool thing about this Mike is that might not be a bad deal because if they are 15 years into a 30 loan, right? They bought it for- or it’s worth 150, who knows what they paid for it, but they owe 90 on it and you take over those payments. Yeah, you’re not getting a great deal but 50 to 55% of that payment is going towards principal, whereas if you were to go out and get a loan, you’d be at 1 or 2% for the first payment.
Mike: That’s right.
David: So, you’d have a lot of leverage on your amortization table, but I like that. Sub 2 for 90 on option 2 and that would still make the deal work guys because we could go in and just take over those payments and- so we wouldn’t have an out-of-pocket expense to buy it. So, if we were to rehab it for example, and it needs 27 grand, our out-of-pocket’s 27, not 90 + 27, we’re just making those payments, right? and maybe that will work, maybe it won’t. If it’s a good deal to do a rental on, maybe it doesn’t need the full 27, maybe it needs 10 or 15 and then we just start making payments again. A lot of that payment amounts’ going to go to principal, but it could position us with a cash flow as well as a wealth-building strategy. So, that’s option 2, option number 3 would be even more typically than the 90. Let’s say we’re offering 100k as an offer, however, this one is going to be a 10-year zero percent interest or another way to look at that is principle only and we’re going to start making payments right away, and basically we’re going to pay 100K over a 10 year period with 0% interest, so 100% of the payment that we make is going to go into equity or debt paydown however, the seller would have to wait ten full years to receive all of his money. So, there are advantages doing-paying that as well. So, even if you bought a property at 100 with the 10-year payment directly to the seller and you put the 27 in, you’re in at 127 with an MAO of 150- I’m sorry with an ARV of 150. So, you know, you can sell that property and maybe make a few bucks, not much though, cost of selling it, holding, interest.
Mike: Yeah, I mean, plus fixing it up.
Mike: Well, it started needing 27 in repairs.
David: Yeah, so 100 plus 27, it’s gonna be at 135.
Mike: You’re not going to make much on it.
David: You might, you might not, right. But you might not, but again with option 2 and option 3, the beautiful thing is if you don’t have money or the ability to get it from a bank. That might be your only barrier, your only way to enter this business Mike, you see what I’m saying?
David: So, there are advantages with paying more and having a seller either work with you to take over their loan or to just pay them directly and they be the bank, but you’re going to pay more. You’re going to buy that, it’s gonna cost money to do those things and the reason that we don’t Mike, let me just finish up, is because we don’t have to work with the seller, we can work with lenders and bankers. So, ideally you want to be able to just get your own money to close and not worry about it, but if you don’t have money, these would be great, go ahead.
Mike: Well, that’s what I was going to say. So, why do we not do it? That’s what I was trying to get at, is why do we not do this? Like, it’s like oh, that sounds awesome, like why would I not wanna do that? Well, I think it’s twofold, one is it’s a little bit more work to find a motivated seller, has a property that they’re willing to sell at a decent price or rather a decent-
David: I mean, all 3 of these are at a discount kind of.
Mike: They have to be.
Mike: Again, I do not see how it would work- and again, maybe I’m just not experienced with it and I’d love it if I was wrong and somebody can show me how.
David: The lease option game and that’s something that we didn’t talk about really, but the lease option could be one of the three offers. We just pulled out our three, anybody else could have their own three. The lease option I think would be the only approach or one of the approaches and/or sub-2 but that would allow you to basically pay retail cuz there’s people out there that are buying properties for retail, but they’re not getting loans, they’re taking over the mortgages, right? or they’re financing it from the seller directly.
Mike: Yeah see, to me it just doesn’t-
David: To me, it doesn’t make sense.
Mike: It just doesn’t make sense. I don’t- I don’t like it. I just feel like it’s too risky, but again that’s just me, it’s my comfort level in wholesaling.
David: It’s a lot of paperwork too and I think that’s the reason why I personally don’t like it. I don’t mind dealing with the people and negotiating but there’s a lot that goes into doing it right.
Mike: Right, you have to set up a new entity for each property. You have to- yeah, there’s a ton of it that goes into it.
David: Gotta have the right paperwork with the powers of attorney or you have to have them you added as you know, an acceptable party to review the current loan if it’s not your own loan. If it’s direct to the seller, it’s much easier cuz then you make your own terms and they’re the lender, but whenever you’re dealing with their lender, it complicates it a whole lot more, and it’s where the properties are paid off that they’re willing to sell on a 10-year. You know, that’s another thing, I feel like it’s rare that people-
Mike: I was gonna go there but I decided not to because of this Dave.
Mike: Wholesaling, one of the biggest things you’ll hear when you say, oh I buy properties at 50% on the dollar or oh I buy property- you know like, oh, why would a seller ever take a $50,000 offer on, let’s use our example, a $68,000 offer on $150,000 house. That never happens, so that’s why I didn’t want to say that because we buy houses at discount all the time, all the time.
David: So, one thing I was thinking about while you were saying that is: with us being discount property investors, that’s our brand too, right? That’s we do all day. It doesn’t make sense for us to buy properties not at a discount and whenever you’re doing this creative, often times that’s why, because you can’t get it at a discount. So, it kind of just goes against my and yours or yours and I-
Mike: It’s just our philosophy.
David: Our whole philosophy.
David: If you can’t get it at a discount, can you make money buying properties not at a discount? Absolutely. Is it harder? Absolutely, right? When you buy at a discount, it makes everything easy.
Mike: Well and here’s the other reason I think that we don’t do it is we- yeah, we’re discount property investors, I lost my train of thought Dave. Let me think about that for two seconds. One, buying at a discount, two is-
David: Can you make money on it at above a discount? Yeah, but it’s harder.
Mike: It is.
David: That’s the- I think that’s the main thing, you know. I like to just streamline things to keep it simple. Whenever you’re doing these other things, it just can kind of- its a shiny object too.
Mike: There! yes. Focus.
David: So, here’s the thing like I wanna say- talk about Jeff real quick cuz he’s one of our- both of our good buddies.
Mike: I love it, I love it.
David: And Jeff’s the sub-2 guy, he loves it and he’s good at it and I promote the hell out of him, and I want him to keep doing it cuz he has a system for that and that’s what he looks for, right? So, if that’s what you want to do, great. If you want to do lease options, like Joe McCall, our good buddy, great. They’re super successful at these things, but they’re typically focusing their efforts on just those things and as a wholesaler, when you start adding these objects- these shiny objects, you’re going to go down these rabbit holes and you’re going to- it’s going to pull you away from what we like to call the three pillars of wholesaling.
Mike: I like that, no I really do. That was my thought that I couldn’t remember.
David: I’m helping you. That’s why we’re a team bro. Yeah.
Mike: Especially our beginning students, people are just starting out. Yes, there are a hundred thousand options. Literally, there’s a million different things you could do with your time, with your efforts, but if you focus on just wholesaling and finding a deal, you’re going to be better off in six months because you’re going to know how to wholesale. Whereas if you go and you make an offer and you’ve- or a letter of intent, you send three or four different offers and the seller comes back oh, tell me more about seller financing. Well, shit now you’ve got to go and figure out all this stuff that you’re going to then explain to the seller. Same thing, you’re going to have to oh shit, now I got to figure out how to do all this paperwork and all that. To me, it’s just not worth it. Focus on finding the deals, focus on doing some marketing and generating leads for yourself. You’re going to be a hundred times better off wholesaling.
David: Totally agree.
Mike: That’s why we do it, or why we don’t do it.
David: So to conclude, we aren’t a fan of multiple offers. We’re not saying it doesn’t work, we’re not saying that you shouldn’t use them but just be aware of the pros and the cons when you’re doing that. It’s going to make your cash offer look worse because it’s the lowest number on the sheet.
Mike: And I’ve got, I’ve literally, I think I’ve got three or four leads to where I need to follow up and just do some subject 2 deals because the cash offer didn’t work, but the subject 2 might, we’re taking over the payments. So again, it’s not that we don’t do those type of deals, just we don’t chase them.
David: Yeah, it’s not worth it to us. Signing off guys.
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