Yes, it is possible to buy a property with no money down. And now you will learn the truth about the claims of no money down real estate deals.

In this chapter, you will be introduced to different methods of buying property without any down payment. You have already learned some of these methods in earlier chapters, but now the techniques of buying with no money down will be discussed in detail. Moreover, the myths of no money down deals are identified and debunked.

In 1979, author Robert Allen published a book called, Nothing Down. That marked the beginning of the frenzy of people learning about nothing down buying techniques, and seeking no money down purchases of real estate.

Following the publication of Nothing Down, which was a highly popular book, many others began to hawk the idea of buying real estate with no money down. It really spawned a generation of so-called real estate gurus who were gladly selling books, cassettes, and seminars. To keep selling their materials and seminar seats, these gurus came up with many creative ideas to buy real estate with no money down.

In real estate financing, there is a term known as the loan-to-value ratio. Real estate professionals call this LTV. This ratio compares the total of the loans to the value of the property. For example, a $75,000 loan on a $100,000 property is a 75 percent loan-to-value (LTV).

Sometimes, you may hear the term TLTV, or total-loan-to-value ratio. This is usually used when additional debts, such as a second or even a third mortgage, are secured by the property. For example, if there is a first mortgage on a $100,000 property of $75,000, and a second mortgage of $10,000, the TLTV is 85 percent ($75,000 first mortgage plus $10,000 second mortgage equals $85,000, divided by $100,000 = 85%).

In no money down deals, the actual amount of financing is 100 percent LTV. In other words, since you are putting nothing down, you need 100 percent financing to purchase the real estate.

There is nothing wrong with buying real estate with no down payment—it is legal, and it isn’t unethical.

The Federal Government has two programs that offer 100 percent financing on real estate purchases. The Veterans Administration guarantees 100 percent financing to veterans buying a home. The United States Department of Agriculture also offers 100 percent financing through its rural housing program.

Some private lenders also offer 100 percent financing programs. In the summer of 2005, Bank of America was offering Zero Down loans. Their 100 percent financing was available for applicants with good credit. Competing lenders were also offering 100 percent financing programs. Some offered an 80 percent first mortgage and a 20 percent second mortgage, which combined to provide 100 percent financing. Several other lenders were even offering 103 percent financing to borrowers with good credit.

Financing 100 percent of the real estate purchase price isn’t impossible. Many lenders are ready to assist you to do so if the property is your primary residence. Properties not used as your primary residence are called non-owner occupied.

When the property is an investment property, 100 percent financing options from traditional lenders are limited. But they are available. The following is an example of a recent mortgage advertisement for non-owner occupied properties:

It is also legal and permissible for sellers to offer 100 percent financing of their properties to someone purchasing it. If the seller agrees to 100 percent financing and does not want any down payment, so be it. The seller may or may not care if the property is being owner occupied or not. The kind of financing an individual seller may offer is up to his or her discretion and is completely negotiable.

Notice that just because a seller is willing to participate in a transaction involving 100 percent financing where there is no down payment does not necessarily mean the seller will not be getting any cash at the closing. For example, a seller might agree to sell his property for $100,000 and accept a second mortgage of $30,000. If the buyer is getting a $70,000 first mortgage, then there is 100 percent financing and no down payment. However, the seller still receives $70,000 in cash. This example assumes the seller had no debt on the property. But even if there was some debt, the seller would still receive at least some cash at closing, assuming the balance of the outstanding debt was less than $70,000.

One technique that was once fundamental to many no money down strategies was to assume the underlying debt. Again, in the example above, if the seller already had a $70,000 first mortgage and would be willing to accept a second mortgage for $30,000, then the buyer could purchase the property with no money down. One variation of this technique was to have the seller refinance the property prior to the sale and then have the buyer assume the new first mortgage. There might be any number of reasons for employing this technique. One of those reasons might be because many lenders might be reluctant to give an inexperienced investor a loan of $70,000 knowing the remaining portion of the purchase is being funded by a second mortgage, and the buyer is making no down payment. By having the seller refinance prior to closing and then having the buyer assume this new loan at closing, the problem is solved.

However, one of the trends in the mortgage industry is to include a due-on-sale clause in loan notes. This clause eliminates the ability to assume mortgages. Prior to the inclusion of this clause, it was easy for someone else to assume the mortgage, oftentimes with smaller closing costs. Sometimes, the interest rate was more favorable than the current market rate.

Common language used in a real estate loan states that, “the Lender may, at its option, declare immediately due and payable all sums secured by the Mortgage upon the sale or transfer, without the Lender’s prior written consent, of all or any part of the Real Property, or any interest in the Real Property.” The term, due-on-sale is perhaps misleading. In fact, as you can see from the actual language, the mortgage may be declared due if there is any transfer of any interest in the property, and not just the sale of the real estate.

Assumable mortgages are now nearly gone from the marketplace. However, it may still be possible to assume the loan. There are two opportunities for doing so. The first possibility is to go to the lender and see if they will waive the due-on-sale clause. The second alternative is to employ an unrecorded land contract or wrap around mortgage.

If you approach a lender about waiving the due-on-sale clause, the lender is likely to apply the same scrutiny to the deal as if you were applying for a new loan. However there may be two circumstances unique to an assumption that might induce the lender to waive the due-on-sale requirement. The first incentive is whether the loan being assumed has an interest rate higher than prevailing market rates. The second incentive is that the lender could still have the seller backing the loan if the lender did not release the seller from liability.

The second way to beat a due-on-sale clause is to employ an unrecorded land contract or an unrecorded wraparound mortgage, although these strategies are full of problems. A wraparound mortgage is a new mortgage that “wraps around” the existing mortgage, leaving the existing mortgage in place. The land contract does virtually the same thing. The underlying premise is that there would be no way for the lender to know about the sale, so there would be no opportunity for the lender to exercise the due-on-sale clause.

There are some people in the real estate industry who advocate making this move. In fact, a recent book about property flipping published by a major publishing house cheerfully points out that it isn’t a criminal act to transfer a property while ignoring the due-on-sale clause.

Technically, ignoring the due-on-sale clause isn’t a crime, but it is a contract violation for the seller. While you aren’t violating the contract between the lender and seller, the seller is. Instead of being sent to jail, you would just become the victim of the lender’s foreclosure on the seller! Unrecorded land contracts make little sense. There is no logical reason not to record the contract, except to avoid detection. That in itself should signal problems.

Anyone advising you to enter into an unrecorded land contract or wraparound mortgage to defeat a due-on-sale clause or for any other reason is dispensing terrible real estate investing advice. In life, none of our misdeeds seem so great as when we are caught doing them. If your scheme is discovered, not only will you have a legal problem, but even more importantly, your reputation with that lender will be ruined.

Lenders want the right to pick their borrowers, and to set the terms and conditions of their loans.

Loans insured by FHA or guaranteed by the VA have been and remain assumable. FHA loans closed before December 14, 1989, and VA loans closed before March 1, 1988 are assumable by anyone. Buyers who assume these mortgages do not have to meet any requirements at all, but the seller remains responsible for the mortgage if the buyer defaults.

Assumption of FHA and VA loans closed after these dates requires approval by the lender. The approval process is much the same as it is for a new borrower. Upon approval of the buyer and the sale of the property, the seller is relieved of liability. FHA permits lenders to charge a $500 assumption fee and a small fee for the credit report. The Veterans Administration permits the lender to charge a $255 processing fee and a $45 closing fee. The VA also receives a funding fee of ½ of 1 percent of the current loan balance.

Any property owner who sells and allows a mortgage assumption by the buyer without a release of liability is inviting problems. Even if the buyer does make the payments—and that is always the question—the seller’s ability to obtain another mortgage will be limited by the continued liability on the assumed loan.

Over the past century, the mortgage-lending industry has learned what has—and has not—worked when it comes to lending money. Over those decades, the industry has learned the most secure loans on single family, owner occupied properties are those with a 20 percent down payment. Lending only 80 percent of the value (80% LTV) makes the loans sufficiently safe. Loans are still available at a higher loan-to-value ratio, but by using private mortgage insurance (PMI), the lenders still make sure that they remain exposed to just 80 percent of the value of the property in the event of default.

Those that are lending more than 80 percent LTV are effectively offering a personal loan for the down payment amount. However, if the borrower is affluent, has the income, and possesses a good credit history, the lenders have been willing to lend more than the 80 percent—despite what they have learned over the years.

Late night television offers the nation’s insomniacs a series of products to buy—from jewelry to vacuums to coin collections. And then there are the infomercials offering educational products about finding riches in real estate investing.

Many of the infomercials feature settings in plush surroundings with palm trees and swimming pools. The lush backdrops tease the viewers while ordinary folks talk about how they are making lots of money in real estate investing because of the simple techniques they learned by using the featured guru’s information. Even more enticing are the huge checks they show they received at a closing from one of their deals.

Buy real estate with no money down. Buy property with weak, poor, or no credit.

Is any of this possible?

Yes.

Is it likely?

No.

Some of the techniques the television gurus teach are, at best, questionable.

For example, one offers the advice, “find a partner.” The idea here is that you would use a partner’s money or credit, or both, to make deals. Other advice is to borrow some money from a family member. If you use either of these techniques and purchase real estate, you aren’t doing a no money down deal, but rather doing a deal using someone else’s money. It’s just that you aren’t putting any of your own money down. Acquiring real estate with partners is a perfectly legitimate solution for the cash-strapped beginner, but you don’t need to pay thousands of dollars for a weekend seminar to figure this out.

As the new investor progresses through the courses and information, they soon learn how to put together more complicated deals. The type of arrangement we discussed where the seller refinances just prior to the sale is a technique that is sure to be covered. The catch is finding a seller willing to participate in such a strategy, not to mention those pesky due-on-sale clauses.

There are at least two reasons for promising seminar attendees that it is possible to buy real estate with no money and no credit. One is to prey on the hopes and ambitions of people who are broke. The other reason is to expand the pool of potential customers. One of the problems the gurus have is to keep people buying their information, seminars, and courses. To do so, they need to sell to people with poor credit and no extra money to be used as down payments. Therefore, they need to sell information that includes how to do the no money down deals.

Some of the techniques they teach are certainly unethical, if not illegal. For example, one of the techniques taught is to use a phantom second mortgage. This involves lying to the lender, telling them there is no second mortgage, but making one up after a closing. In effect, you hide the second mortgage. Another technique is to tell the lender you will be living in the property, when actually, you are buying it as a non-owner occupied property.

No guru is going to tell you to break the law. But unfortunately, many times what they tell you to do is something that can’t be done unless you do break the law.

To make a no money down deal work, often you must take advantage of an unsophisticated seller. It is one reason so many FSBO properties are targeted by no money down dealmakers, hoping to make a deal with someone unprotected by the advice of a real estate agent.

Television gurus tell you to assume someone else’s mortgage so there is no credit check. The problem is finding an assumable mortgage worth taking over. If you find one, it is probably years old and the balance is small compared to the actual value of the property. The gurus may omit this information.

A powerful sales force backs many of the companies selling real estate investing information via television infomercials. Once they sell you the initial package of information, expect repeated phone calls. You will be likely offered special seminar seats, mentoring services, and other unique offers. Buyer beware is perhaps the best advice to anyone considering purchasing expensive courses, seminars, boot camps, or mentoring services being hawked by the television infomercials.

Television is an enticing medium. It is easy to be lured into the trap of what is presented. You ask yourself how a couple of ordinary people can live in a beautiful mansion. Why can’t you live like that? It is all designed to sell you on dialing that toll-free number.

As a real estate investor, you are primarily going to buy property to hold for cash flow, or to sell quickly at a higher price (flipping). If done correctly, both of these methods should produce profits for the real estate investor.

Leverage is the use of financial instruments or borrowed money to increase the return on the investment. In business, leverage is used to create wealth. Suppose, for example, that you had just $1,000. You could use that money to buy shares of Microsoft stock. If each share of stock costs $100, you would control 10 shares—and enjoy the value of the ownership. If the shares of stock rose in value to $120, you would have a return of $200 on your investment.

But suppose you used the same $1,000 to buy a stock option of 500 shares of Microsoft stock. Now you would control 500 shares. The return could be much larger. This is how leverage works.

In real estate, the same principles apply. If you have limited funds, how do you use that to get the maximum return? By borrowing additional funds to be able to employ additional financial leverage.

Another example of leverage at work is the condo flipping strategy you read about in Chapter 2. Because of rising real estate values, investors have been grabbing options on new high-rise condominiums. The plan is simple: they option the purchase of a condominium for a specified price by entering into a purchase agreement with a builder. The investor places a small deposit with the developer. Construction on the condominium begins. Prices appreciate during construction to a price higher than the agreed price on the builder’s contract. As prices continue to rise for new units, the investor sells the contract to someone else, turning a quick profit.

As a real estate investor, you can do this type of speculative investing. On the other hand, you can buy properties to hold for cash flow.

Holding for cash flow can seem so unexciting when compared to fast money deals. When you buy and hold investment properties, each month you receive a rent check from the tenant. If your income exceeds your expenses, you will have cash flow.

Cash flow in the early years of ownership may be lean. However, as rents increase, your profit margin and cash flow are likely to increase. This is true because when you buy, you lock in the largest single cost of real estate ownership—the interest on the mortgage. Imagine if you could buy at prices from ten years ago but you could rent the property at today’s rents. You’d really be in the money! Realize the property owner who has owned his or her building for that time period is enjoying exactly that equation. That could be you in a few years, if you get started now. Dave knows of plenty of wealthy retired landlords, but no wealthy retired property flippers.

If you could receive an average of $200 of positive cash flow each month from each of your rental units, look at what that means to you as monthly and yearly income:

As you can see, the more units you have producing positive cash flow, the more money you make.

Another problem with flipping is that it does not take advantage of many tax preferences for real estate. Your property flip deals will at best be considered a short-term capital gain. However, if you start doing enough flip transactions, the IRS may view you as a dealer. The profits realized by dealers are ordinary income exposed to even more taxation.

When you buy and hold, your real estate loans are being paid off a little each month, and each year you own a bigger portion of the real estate. Forget about what your cash flow could be 10 years from now. Try figuring your cash flow with no mortgage payment. Suddenly, the buy, hold, and collect rent investment looks better, doesn’t it?

Suppose you had only $10,000 to invest in real estate. Should you buy and hold for cash flow or find a property you can flip at a quick profit? More than likely, the nature of the deal will dictate which approach you take. If the property is a rare gem sure to appreciate over the years, buy and hold it. Alternatively, if the property is a fixer-upper, you have already made the repairs, and you don’t see more than cost of living type of increases in your property value, maybe you should sell. You’ve made your money in this second deal. The final answer to this question may be dictated by the next deal you find. Maybe that gem you were planning to keep needs to be sold to raise the cash for the next deal that’s just too good to pass up. You’ll learn more about selling strategies like this one in Chapter 18.

For a real estate investor, the most desirable properties …

For most real estate investors, this means finding properties that are offered for sale by motivated sellers. Motivated sellers are individuals who have experienced some kind of change in their life that suddenly makes them not want to own real estate. It could be as simple as job relocation, to sudden, unexpected financial difficulties. For whatever reason, these sellers are looking for a buyer as quickly as possible because owning their property has become a burden.

Motivated sellers may agree to sell their property for less than the fair market value, or with favorable terms, or a combination of both. But in a hot seller’s market, none of this is necessary. For example, if there is strong demand and a shortage of homes in the $175,000 price range, when an owner of a $175,000 property in a good location in excellent condition decides to sell, there will likely be a fast sale without any need to offer a discounted price or special terms, regardless of the seller’s motivation.

Properties in declining areas, or in distressed condition, or that have been offered for sale for a period of time, may be available at terms favorable to a real estate investor.

Earlier in this book in Chapter 7, you learned about foreclosures and real estate owned (REO) properties. The owners and lenders are usually more than willing to negotiate deals with investors. Properties such as these are often available at below market pricing. The owners may be willing to structure a deal in a way that works for the buyer, just so they are relieved of the property.

Fortunately, readers of this book have one additional ace in the hole. You can develop your vision for seeing the value potential that others have missed. Change the use. Subdivide the large lot. Knock down the little house with the big yard. Add a garage. You learned about these kinds of opportunities in Chapter 6.

With so many opportunities, there is no reason to stoop to making questionable deals. There is nothing wrong with buying a property for the least amount possible. There is nothing wrong with asking for special terms—whether it be closing costs assistance or seller financing. It is up to the seller to agree.

But there is something wrong with taking advantage of people, stealing their equity, and putting them deliberately into a bad position. It just isn’t right, ethically or morally. Consider these examples:

These are just some examples of unethical or illegal acts relating to real estate investing. Don’t do it. It isn’t worth it. There are plenty of legitimate, honest ways to make a fortune in real estate investing. Yes, it takes a lot of hard work. No, it can’t happen overnight. There’s no reason to be involved in shady dealings that could cost you everything—from losing your investments to ending up in jail.

If you want to be a real estate investor but have your own financial problems (such as weak credit or no cash), do not despair. You can still be a real estate investor, and you do not need to resort to seedy transactions. Here are some things to do to get you on the right track:

A recent trend is to buy property with an interest-only loan. Rather than amortize the principal, you simply pay interest payments only for a portion of the loan period. With an interest-only mortgage loan, most often you pay only the interest on the mortgage in monthly payments for a fixed term. After the end of that term, usually five to seven years, you start paying off the principal, in which case the payments increase substantially. Alternatively, you could refinance, paying the balance of your interest-only loan in a lump sum.

As a real estate investor, an interest-only loan might make sense, particularly if you are planning to sell the property before you must begin paying the principal. For example, an interest-only $200,000 loan at 7 percent saves about $164 a month over a loan amortized over 30 years. This would increase your monthly cash flow.

An interest-only loan probably does not make sense for long-term investment and ownership of a property. Once the loan converts from interest-only to paying interest and the principal, the payment adjusts upward. That same $200,000 loan would increase approximately $300 per month if amortization begins in the seventh year of a 30-year loan.

For regular homebuyers, the advantage of an interest-only mortgage is that it allows them to qualify for the purchase of a larger or more expensive house. For most people, this strategy would allow borrowers to dig a bigger debt-laden hole for themselves. The biggest risk, for both the homebuyer and real estate investor, is that if the property loses value, the debt could become greater than what the property is worth. There is additional risk in that even if the home does not lose value, the borrower may not be able to afford the higher payments once the interest-only period expires.

The Least You Need to Know