Real Estate Investment Disposal: Wide Range of Exit Strategies Available to Real Estate Investors

Without proper planning, investors who have improved, maintained, and even filled their properties with good tenants risk selling those assets for less than true value or paying capital gains taxes that could have been deferred. After an investor has determined that there are valid reasons to dispose of property, the next decision is how to effectuate the sale.

Outright Sale and Lease/Options

In an outright sale, an investor transfers title to property in exchange for payment without keeping any interest in the property. The buyer either pays all cash or makes a cash down payment and finances the balance of the purchase price with funds from a mortgage lender. If the investor has carefully considered the expenses, such as a real estate commission or unexpected repairs, and tax consequences – the local realty transfer tax and federal and state capital gains taxes – of an outright sale, this is the most expedient way to dispose of property.

For some investors, a short-term lease with the option to purchase may be more in keeping with their real estate investment plans. In such an arrangement, an “optionee” pays the owner for an option (also referred to as a down payment) to buy the property at a later date and then pays monthly rent for the duration of the lease. The owner and the optionee decide how much of the monthly rent is to be credited toward the purchase price. When exercising the purchase option, the optionee pays the balance of the purchase price with a conventional loan or other funds. The owner retains full ownership of (and tax responsibility for) the property until title passes to the optionee.

The lease/option is ideal for individuals who want to buy property but do not immediately qualify for a conventional mortgage because of inadequate income or what the lender deems to be a poor credit history. The lease/option transaction can save the seller the commission that a real estate agent would earn on an outright sale.

Installment Sales

At times, a real estate investment plan is best served by the gradual sale of a residential property and the transfer of maintenance, insurance, and tax responsibilities to a qualified buyer. In this type of transaction, the investor is both the seller and a lender who takes back a mortgage on the property being sold. Because the U.S. tax laws consider this an installment sale, the seller can defer payment of the capital gains tax while receiving monthly payments akin to rent but without the usual landlord burdens.

At the same time, the buyer gains title to the property without all the paperwork and fees associated with a conventional mortgage loan; this often allows the seller to ask for a higher purchase price. The interest rate and the length of the mortgage term determine the monthly payment amounts. For investors amenable to installment sales, this can be an astute way to attract buyers in a tough lending environment. The downside to an installment sale is that the seller will have to go through foreclosure procedures if the buyer defaults under the terms of the purchase agreement.

Due Diligence Is Always Paramount

Many investors have successfully engaged in more creative and risky exit strategies than the ones described above. Regardless of the disposal method chosen, investor-owners must never neglect their due diligence. Among other things, this means verifying that a buyer has the funds to purchase a property outright or to make monthly rental or mortgage payments to the owner.

There are other factors to consider. For example, if the owner is disposing of a multi-unit residential property and a prospective buyer lives far away, is inexperienced as a landlord, and has no plan for managing the property, the owner may decide that the risk of default on an installment sale would be too high.

Eight Steps to Becoming a Real Estate Investor: Well-Informed Investors Can Thrive Even in Shaky Economy

As prices for real estate continue to stagnate and even plummet throughout the United States, properties that even a year ago were out of reach for many are now sitting on the market with more reasonable prices. This new accessibility to property is enough to convince some individuals that now is the time to try their hand at investing in real estate.

Nonetheless, jumping into real estate investing on a whim or a hunch without proper preparation is a surefire way to fail. Fortunately, many sources are available for boning up on the basics. There are numerous books, CDs, and DVDs on real estate investment, and many of these are in local libraries. In addition, when the words “real estate investing” are typed into any search engine, millions of Web sites turn up.

Learning Real Estate Investing Basics

It takes a while to wade through this available information. In the end, it becomes evident that there are eight basic steps for increasing the chances for success in real estate investing:

  1. Understand the components of return on investment, including cash flow and appreciation
  2. Write an real estate investment plan that specifies financial goals and timetables for reaching them
  3. Carefully choose the form in which to own property (as an individual, a partnership, corporation, etc.)
  4. Turn to real estate agents, attorneys, tax advisers, and other professionals for expert guidance
  5. Study the target areas in which to buy property
  6. Line up affordable financing
  7. Avoid overpaying for real estate
  8. Manage the property diligently

These steps merely outline what is involved in becoming a real estate investor; there are many factors within each step. Absorbing and understanding all this information is not as daunting as it may appear. No special course work or degree is necessary to understand the principles involved, particularly if the novice investor lines up a team of professional advisors. As with anything new, there is a learning curve to real estate investment. Patience is necessary; any short cuts can lead to disastrous decisions.

Yet, studying is not enough and over-caution can be paralyzing. This is why it is essential to get out there and buy – it is the only true way to learn the business of real estate investing.

Real Estate Buyer’s Comfort Level Trumps Economic Outlook

Although the economic outlook and real estate markets remain uncertain, this should not deter individuals from investing in real estate. As Rhonda Duffy, broker of Duffy Realty of Atlanta, wrote in an e-mail to this reporter, “The timing and outcome of a purchase … have more to do with the specifics of the property and the motives of the buyers and sellers than they do with any macro economy or market-driven issues.”

According to Duffy, in most cases, the determinative factor for when and how to best acquire property is the comfort level of the buyer, “which encompasses his or her financial and personal criteria.” Thus, she observed, “Like in most things, everything comes down to how it affects ‘me.’”

Just make sure that “me” is armed with adequate and reliable information.

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