What Not To Do In a REI Deal

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Posted from the Charlotte REIA newsletter



What NOT to do! - by Cameron Dunlap



I received an email recently from a student in Akron, OH who was troubled (if not downright distraught!) by the actions of an investor in his market. The media and the public had made a big deal of it and the student's concern was that the impact this has on his market will make it difficult for him to do pretty house deals. And I believe he is right. But I also believe that with time the issue will fade away.



It seems that a woman in Akron, who will remain nameless, had built a large portfolio of properties by getting the deed and had re-sold most or all of them on contract/lease option. As you know, this is what we do every day. This is a large part of our business in general and at the core of what many of us focus on.



By most measures, this woman deserved credit for her success. The local newspaper article said she had over done over 100 deals like this.

So...what's the problem?



Well it seems that she is being sued by a number of sellers and buyers alike and as of the date the article was written, had nearly $800,000 in judgments against her. And it appeared that number would grow substantially because there were still a number of suits pending.



She is being sued by sellers and buyers alike, in some cases on the same deal.



Why was she being sued by sellers? It seems when she took the deed from some, and started making payments on the sellers behalf but then later stopped making the payments while continuing to receive payments from her buyers. Why she would do this is unknown to me but I would have to guess it was a result of a cash flow crunch. You might wonder how a person who had done over 100 of these deals and who was presumably making a profit could find herself in a cash crunch. The answer, in my opinion, can be summed up in a word. Spending. Her outgo exceeded her income and led to a cash crunch. Spending on who-knows-what, but spending none the less.



Under any circumstances, if we are collecting payments from a buyer on a house on which we have gotten the deed, and then stop making the payments on the sellers behalf, it is called "equity skimming" and it is, I believe, a felony. There was another investor I know who got nailed for this in Florida. The authorities and TV consumer advocates go to town on people who do this. And jail time is usually the result. So for goodness sake - don't ever do this!!



In this particular case, not only is it equity skimming but the sellers are suing her for what I presume is breach of contract. But wait. We are taught not to make promises or enter into any kind of contract to make payments with a seller. In fact we tell the seller that we will not make any future or back payments until we have put a buyer in the house.



The trouble, it seems, is that the court has determined that once payments start being made, the investor is entering into some sort of implied contract to continue paying. And because she stopped. the seller had obvious recourse. To add to the sellers case is the fact that the lenders are foreclosing and it's damaging the sellers credit. I don't know about you, but if I was the seller in one of these cases, I would sue too, especially if I learned that other sellers who had the same problem were suing and being awarded judgments. It appears that this woman's problem is snowballing out of control.



It gets worse. Because she is not making the payments and the lenders are foreclosing, the buyers, from whom she has collected down payments and given rent credits, are unable to buy. The buyers are in fact losing equity because they can't buy and as such are suing the woman and being awarded judgments against her too.



Holy smoke, what a mess!



So...here's my point: DON'T DO THIS. Once you have collected a down payment from your buyer and started making payments on behalf of your seller, don't stop making the payments! It's not only horribly unfair to the seller but it could be the end of your business. But what if there's a cash crunch? What if you are incapable of making the payments? Then go do a couple of retail deals and get the infusion of cash your business needs. Fix the problem with action. Proper action. Not inaction.



I think this also makes a clear case for diversification in your business. I like to mix it up. Pretty houses and Junkers. Lots of income from different areas of the business is another way to avoid a cash crunch.



And lastly, I think that this makes a case for living and operating your business within your financial means. Or in the words of my good friend Ray Rach, "Act Your Wage".

Comments(2)

  • JohnLocke1st December, 2004

    Raj,



    I believe this is more information on the person from Ohio.



    House deals aren't criminal



    Prosecutor says complex real estate arrangements won't result in charges



    By Gloria Irwin



    Beacon Journal business writer



    The Summit County Prosecutor's Office has found no basis for bringing criminal charges against Laraine Porter and her complex ``we buy houses'' real estate deals.



    Speaking to the annual meeting of the Fair Housing Contact Service, Assistant Prosecutor Mary Ann Kovach said that an investigation of Porter's arrangements showed any irregularities appear to be ``far more civil than criminal.



    ``It looks like the parties knew what they were getting into,'' Kovach said, and there was no evidence of false or doctored documents created by Porter through her various businesses, which include Area Wide Home Buyers and Area Wide Real Estate.



    Kovach said finding such falsification was necessary for the prosecutor's office to pursue criminal charges.



    Porter dealt with homeowners who wanted to sell quickly and offered to take over their mortgages. Porter transferred the property title into the name of a trustee who worked with her, but the mortgage remained in the name of the original owner.



    She collected monthly payments from a renter or potential buyer, and the deals worked for a time.



    However, many of the deals fell apart when Porter failed to keep the mortgage payments current, and the lenders moved to foreclose against the original owners.



    More than two dozen civil suits have been filed in Summit County Common Pleas Court involving Porter's dealings.



    In March, Porter filed in U.S. Bankruptcy Court in Akron for Chapter 13 protection, and her petition has since been transferred to the Youngstown division.



    While the bankruptcy petition is pending, action on the civil lawsuits is on hold.



    When contacted about the prosecutor's office not finding evidence for criminal charges, Porter responded briefly.



    ``I would have suspected they would not have found any since there aren't any,'' she said.



    She also said her problems arose when people she dealt with didn't pay her as promised.



    John $Cash$ Locke


  • JohnMichael6th December, 2004

    What a same that this has occurred!



    This investor had it going great but looks like she simply did not budget properly and did not account for people not paying her.



    Looks like she lost focus of the fact that she has become a landlord and dealing with a large number of units you will not get paid for some.



    When you invest in real estate using this strategy you must have a strict budget to be successful.



    I do this all the time but I treat myself as a sales person and pay my self a commission of 25% of all the net proceeds ever month and any overage is set aside till the end of the business year and than it's "BONUS TIME".



    I hope she takes what she has learned "WHAT NOT TO DO" and starts over.

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