Real Estate Crowdfunding Experiment #1: Property Details and Numbers Breakdown

polpic

Woohoo, I just received my first interest payment on my real estate crowdfunding experiment #1. I put in $5,000 at 11% APR, which should work out about $46 a month but the first partial payment was an underwhelming $16.81. I e-mailed Patch of Land and they said I could share the details of my loan, so here they are. If you are a SEC accredited investor and a (free) registered member, you can view it on their site.

Financial details. Here is the summary and breakdown from the Patch of Land listing:

The developer is requesting a loan of $179,000 in order to purchase and renovate the underlying property. The property was purchased for a total of $155,000 in April of 2015. There is minor renovation needed for the underlying property, totaling $55,000. The borrower will receive 2 draw(s) totaling $175,420 over the course of the loan. The initial draw in the amount of $120,420 occurs when the loan closes. The second draw of $55,000 will be disbursed when renovation is completed. The borrower plans to sell in 1 year or under.

polwestsac

Loan is secured by the property, in the first position. Also have personal guarantee from borrower (not worth much). 6-month term (roughly April 15th to October 15th). 11% APR interest, paid monthly.

So the developer is contributing roughly $40,000 and the loan is roughly $180,000. So a total of $220,000 is being put into this house. Considering that the loan will charge roughly $10,000 in interest over 6 months, plus a potential 6% brokers commission upon sale, this house would have to sell for around $245,000 for the developer to break even. The developer thinks the house can sell for $275,000 but it all depends on how well they spend that $55,000 in renovation costs and how the local market holds in the next 6 months. A 3rd-party appraisal gave a estimated after-repair value of roughly $240,000, which is probably a conservative number but suggests a potentially tight profit opportunity for the developer.

In the end, I do believe it likely that the loan amount of $179,000 can be recovered from this property in a liquidation scenario (see below). It is important to note that the developer doesn’t actually get the final $55k until the renovations are completed and thus the home will be worth more.

Property details. Single-family home in West Sacramento, California. The address is 508 Laurel Lane. You can look up details from public records using sites like Zillow or Trulia. Built in 1954, 3 bedrooms, 1 bath, 1,675 sf living area, 7,000 sf lot. The pictures provided suggest a house that is definitely in need of a kitchen remodel and light repairs, but it wasn’t destroyed inside. The house is about the same size and appearance of other houses in the neighborhood.

I am not familiar with the Sacramento area. The zip code of 95691 appears to have slightly above-average selling prices compared to West Sacramento overall. According to Google Maps, the neighborhood is relatively close to freeway access and downtown Sacramento. I also looked at Google Street View and I liked that the neighboring houses all appeared to have well-maintained houses and manicured lawns. That suggests pride of ownership and/or a certain level of peer pressure to keep your house looking nice. Based on a quick Craiglist search of comparable rentals, this house should support roughly $1,400 to $1,500 in monthly rent, which is not bad compared to the ~$245,000 that I’d like this house to sell for once fixed up.

In the end, there are a number of risks in this deal, but otherwise it wouldn’t pay an 11% annualized interest rate. From my vague understanding of hard money loans, I was hoping for much lower LTVs in the 50% range instead of the 80% range. Perhaps the lessening of loan standards from new money flooding this new asset class is already happening. It would be educational to see how they handle a liquidation… but I should just sit back and quietly cash my interest checks.

Comments

  1. Thank you, Jonathan. This is an exciting experiment, and I am eagerly awaiting the results. However, I wonder how you can assess the risk in these kind of loan. Is there any way to arrive to an estimate?

  2. What accounts for the difference between the $46 monthly expected and the $16 delivered?

    • As Tim noted, I’m pretty sure based on the dates there wasn’t a full month of interest accrued. Next month’s payment should start to be the regular payment.

  3. I have been investing in these types of loans for a few years now – although not through a crowd funding site, but directly with a loan broker. I have a good experience with them and not had any issue with defaults.

    The real test is when something unwelcome happens: bankruptcy, cost overrun, market downturn, fire etc..
    I have not had any experience with that. Although my broker has set my expectations that any of these events could result in an up to 6 months delay in recovering my principal, but a very low chance of actually losing any principal.

    The LTV’s here are higher than than I typically fund of usually a max of 65% Loan to ARV, but then the interest rates are a few percentage points higher as well.

    Ian: because it was a partial month.

  4. I don’t know that the personal guarantee is not worth much. Because this is a business loan (not a residential home mortgage), the personal guarantee means that this is a recourse mortgage. Pretty sure that means in the event that the loan defaults, Patch of Land can sue the developer to force repayment via other personal assets

    • Interesting. Well, the loan is technically to an LLC created by an individual. Then I believe there is an additional personal guarantee by the individual. Does that put the individual’s personal assets at stake? Is it actually collectable?

      • Yes, that is what a personal guarantee is. At least in California, pretty sure that banks are not allowed to require personal guarantees on residential mortgages (which can contribute to increased defaults / foreclosures). However, a LLC can be created relatively quickly and to ensure it is not a fly-by-night entity, the actual owners of the LLC can be forced to collateralize their own personal assets to ensure the safety of the mortgage in question.

        http://www.nolo.com/legal-encyclopedia/personal-liability-mortgages-held-llc-corporation.html

        • Thanks. Well, let’s hope there is something left to collect if the need arises. 😉

        • Michael S says:

          The value of the personal guaranty is diminished because California is a non-recourse state, and the “one-action rule.” In California, the holder of a loan secured by a deed of trust almost always elects to pursue a non-judicial foreclosure, and waives the right to pursue a deficiency judgment. The other options with a guarantor would be: file an action for judicial foreclosure and seek damages on the personal guaranty (time consuming, expensive and lack of finality because of right of redemption), or pursue the guarantor directly and waive the security interest (this is typically done only in error).

    • You can sue all day…..and the last I heard LLCs are Limited Liability Corporations so that the individual will not lose personally – of course, he may not have anything to lose even with a personal guarantee! He’s doing this because he cannot get a loan.

      Think about a mortgage company – and how they make loans (and who is paying for the H/O insurance?) – and look at those huge origination fees (unbelievable considering this is not a bank loan).

      In my past life, I was a real estate broker for years. This “deal” doesn’t even pass the sniffer test!! The 3rd party appraiser (who paid him?) can appraise it for anything he wants – since it’s not a bank doing the lending! Who’s owning the property in the first position – the borrower? And, what are the investors? I think Patch of Land can make its money in the origination fees – and this is more like a bridge loan, isn’t it? Or a builder’s loan – so, he’ll make interest payments and then hope to sell it. What if it isn’t in 6 months?

      One other thing – don’t ever invest in real estate in an area that you’re not familiar with. And, this house could have more than cosmetic problems…who did a certified house inspection so that you’ll know before you invest?

      The quick “no” would be in the huge risk of… even after renovation – the margin is so tight, it doesn’t exist. It’s about one of the worst investments I’ve ever seen – it was really hard to wrap my head around….what’s good about this? Nothing.

      I hope it turns out for you – I can see this type of lending taking a bad turn because people are so eager to earn more than 1% or 2%…and maybe it will work at first, but then like my story below -greed sets in and no one sees “risk” anymore.

  5. What kind of proof is needed by Patch of Land or any other crowd funding site to show that you are SEC accredited investor? I understand the criteria of USD 1M outside of your primary residence or income thresholds.

    • There are a few options. You can have a professional write a letter affirming your assets (CPA, lawyer, registered financial advisor). For income, you can send in paystubs, W2 forms, tax returns, etc. You can redact things like Social Security number for privacy. For assets, you can send in statements. You’ll also need to include a credit report to verify your liabilities don’t offset your assets. Hope that helps.

  6. Oh….do I have a story to tell you about funding loans for flipping properties (because they can’t get a loan elsewhere). It’s a little bit long but you have to hear it all to see how it happened – and hopefully everyone here is wise enough to avoid this – but, then again it was a story of trust….a sad, sad story.

    There are “real estate investor clubs” throughout the country. This story is about a friend of mine in Florida who had invested in some rental properties over the past 10 years – and she became involved in this through her association with one such club. The story is not about the club – it’s just how she became interested and wanted to invest her money to get a better (safer) return – like 10%. In addition to the club, she attended some real estate investing “seminars” by a popular “guru” – not the one you see on TV 🙂

    She didn’t purchase anything at the seminar – no manuals, etc., but as those in her club would do periodically, she would invest a few thousand in a house flipper – short term (approx. 6 months), and then he would pay her. She would do it again on the next house the same flipper would purchase along the east coast of Florida, and work on, but maybe increase the loan amount or have more than one property going at a time (since he proved to pay what he owed, and on time). She would call me and tell me that she was getting 10% on these loans.

    When he had several houses going…I started to question her. I asked her how these “personal” loans were secured? Well, she said as “2nd mortgages”, and trusting him since it had been a couple years now and he always paid her…. you can see how the trust is growing. He would purchase the property that needed work, but she would loan him money towards the improvements he would make….sell the property, pay her off.

    One day, a year later, I asked her how it was going with the “flipper”. She said, “just fine” – he was a little bit late on paying, but the market had slowed down and house weren’t selling as fast – she had 3 loans outstanding with him – but she wasn’t worried – the longer it took him to pay – the longer she got 10% interest. I finally asked her how much she had tied up with him – it had grown to $100,000 for the 3 loans. I asked her if she heard from him regularly…she said, yes he would call and give her updates…still trusting.
    Then, I found out that he had secured one of the loans on a house in Jacksonville – she felt safe because she was the 1st mortgage holder on that one, along with him. He agreed also to deed the 2nd property over to her until he could pay them off, and the 3rd one was a 2nd mortgage. So, she held “ownership” of the properties – waiting on that 10% money to roll in.

    Then…he stopped calling. She called him and his phone was disconnected, but found out that he had moved to Oregon, I believe. I told her to go to the courthouse and start checking these transactions out! She found out that “he” was a “Trust” holding ownership with her. I asked her if she had been to the properties – she said, “no” – they were 3 hours north of her and she had never seen any of the properties she had invested in – he had sent her photos each time: normal looking houses, needing some renovation, nothing abnormal. (She was also unaware that there are people getting “small loan sharing loans” this way by sending photos of “nice” houses claiming they were the properties that you are investing in).

    She took off to Jacksonville, got the tax record information, the addresses and went to check up on this $100,000 (at 10%!) that she was invested in. She should have called an ambulance instead because she was about to go into shock. One of the properties was an abandoned house in a bad part of town, boarded up, probably hadn’t been lived in for 20 years. The 2nd one was a “chicken coop” – no kidding – a tiny lot with an abandoned chicken coop. The 3rd one was a piece of property that was very tiny – abutting a railroad track (it was likely a right-of-way that the railroad didn’t want). All together, the properties weren’t worth the gas it took to get there.

    She called the State’s attorney, or whatever legal entity she thought could help her. Nope….these thieves take off and go to other states where it’s cost-prohibitive to track them down…etc. Later she learned that there were several other “owners” of these properties, who had never seen them…one in Colorado for another $100K. But, my friend was the “Legal Owner”. I told her you are going to be responsible for the taxes…you could be accountable to have the properties demolished. They could go into foreclosure – but just let them go…don’t bid on them thinking you’ll recoup anything – they’re worth nothing.

    She died last year – her retirement savings seriously damaged, after the year she had just gone through by this complicated scam.

    Yes, 10% is because of the “risk” involved, when they cannot get a loan elsewhere. Even with a little due diligence – there are predators who have the patience to wait to get you sucked into trusting them with more and more of your money. Not saying this situation is the same – but some of the elements reminded me of this sad tale of deception.

    Hope this prevents people from wanting the big returns from investing foolishly – more people should hear this story.

  7. I saw that episode the other night on American Greed. Felt bad for her

    • Bob, you saw this on American Greed? What was it called? I’ll have to check it.

      I don’t think her issue ever was public outside of her family/best friend – she would have too much shame to let it be known. The story I told here is just a personal experience I tried to help her deal with…then she died last year. Maybe this type of event is more common than we realize.

Speak Your Mind

*