To be a successful investor you have to be a good marketer. Being a good marketer might mean different things to different people. For example, in real estate investing it might mean that you are cultivating a network of agents to dig for deals that fit your criteria. Alternatively, you might be a real estate auction pro investing time and effort bidding against other investors on the court house steps – hopefully wearing thermal underwear in winter. You might specialize in HUD properties and score good deals by watching your prospective deals like a hawk. Regardless of what you do, the outcome needs to be the same. You need to have enough marketing skills and real estate expertise to generate a consistent flow of quality leads.
Today I’d like to talk about something that as a hard money lender I feel pretty strongly about. It is about buying your next flip though a wholesaler. First let’s define some terms.
Wholesalers work in different ways. In some cases they buy a property and then sell it very quickly. In majority of cases they never assume the title. Instead, they put the property under contract and then assign the contract to the new buyer as quickly as possible.
Assigning a contract is a pretty simple concept. When a wholesaler signs a contract with a seller, he or she includes a clause that allows another buyer to step in and purchase the property without the seller’s permission. Most often a wholesaler assigns the contract to another investor who will then fix and flip the property.
For his services a wholesales charges a fee that is added to the price negotiated with the seller of the property. The fee varies, but typically it ranges between $7,000 – $50,000. In essence, you are paying the wholesales to do your marketing, so you can acquire your properties hassle-free. And this is where I as hard money lender take issues with wholesaling.
Three Reasons Hard Money Lenders Are Weary of Wholesalers and You Should Be Too.
Miracles Rarely Happen – At Least in Real Estate.
As a hard money lender, I can confirm one thing – in real estate you make money when you buy. It means that your purchase price should be discounted enough to allow for a decent profit margin. If you are buying through a wholesaler, that discounted price consists of (1) an initial price your wholesaler negotiated with the seller of the property and (2) the fee the wholesaler added on top of it. The only way the numbers work is if the wholesaler negotiated a deeply discounted deal with the seller. While such deals are possible, they do not come up too often.
When Working With A Wholesaler Remember One Thing: Your Interests Are Not Aligned.
Let’s assume that a wholesaler manages to put the property under contract at a super-duper discounted price. Does it mean that you will be getting a better deal? Unlikely. At that point, he will have every motivation to charge you a higher assignment fee. After all, like any good businessman, a wholesaler is looking to maximize his profits and not yours. To determine their fee they will rely on the law of supply and demand and charge the maximum you or other investors are willing to pay.
When Working With A Wholesaler, There Are No Free Lunches.
We all know the expression “There are no free lunches.” One of my favorite spins on it is “Free cheese is only in mousetraps.” Allow me to illustrate my point. Let’s assume again that your friendly wholesaler finds a motivated seller willing to sell at a deeply discounted price. Even more, he feels like spreading the wealth around and is charging you only a modest fee. Call me paranoid, but this is where any hard money lender would get a queasy feeling – and you should too. Why such generosity? If a wholesaler is getting such an incredible margin, why not rehab the property himself? What’s missing (or broken, or rotten, or cracked) that you are not aware of?
Here is a real live example. One of our clients worked with a wholesaler to purchase a deeply discounted property in Washington DC. It was an incredible deal that made us wonder why the wholesaler himself was missing on such an opportunity. Later in the rehab process, our client learned the real reason: the gas pipes were cut because the previous owners were deeply delinquent on their gas bill. It literally took months to work through the DC bureaucracy to reinstall them, greatly delaying the process. The wholesaler was likely aware of the issue and figured it was easier to make a fee then to mess with the whole process.
It’s not that I haven’t seen decent deals done through wholesalers. However, in my experience as a hard money lender, they are few and far in between. I am not advocating for cutting wholesales out. Never say never. However, I strongly urge you to be extra careful when working with them. They can be an occasional lead source, but do not build your entire investment strategy around them. There are no free lunches, so you have to figure out your own marketing sources.