Let me give you an example of how different the financing can be for the same type of real estate with two different buyers who had two different business plans.
When my son was born, I purchased a two-bedroom condominium in a complex that I had placed the financing on for a developer client of mine. I purchased the condominium for the sole purpose of having someone else fund my son's college education through rent! I set up the financing such that it was amortized more than twenty years and coupled it with enough down payment that a tenant's rent would cover the mortgage payment and the HOA dues.
I then leased the unit and let another person just gradually pay the loan down monthly though his rent. I was not concerned if the property appreciated one dollar. I just wanted the property to be free and clear when my son was ready to go to college.
Another friend of mine purchased another unit in the same complex and wanted to hold it for six months and sell it. He borrowed as much as he could and paid a higher interest rate than I, but he was able to pay the loan off in six months when he sold the property for a profit, without any prepayment penalties. He used leverage to his benefit.
Both of these loan structures were appropriate for the investors; however, they were very different in structure and actually had two different types of lenders.
How much risk am I willing to take?
You need to ask yourself how much risk you are willing to take. Ask some tough questions of your personal finances and lifestyle. If you are a financially capable, sophisticated real estate investor then leverage and debt can be your best friend. If you are not in that category, be honest with yourself and borrow less or spread your equity risk by bringing in a partner.
TIP One of the strongest traits that I see in my business is that successful real estate investors know their risk tolerance levels.
A good example of this was when another customer of mine wanted to build 400,000 square feet of speculative industrial space in the Phoenix metro area.
This would be the first development for this client in the Phoenix market. He has done similar projects throughout the other southwestern states.
He hired me to find an equity joint venture partner and a construction loan. We spent quite a bit of time talking about how to finance the development, and he decided that he wanted a low-leverage construction loan and a large institutional partner that could weather any bumps in the road.
I brought him a pension fund that put in all of the equity and had a very long-term investment strategy. My client was very happy to get his first Phoenix project started with minimal equity requirement from him. This client could have easily done the project all on his own but decided to reduce some risk. This is probably why he has been in business forty years!
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