Advice to owner-financiers: Listen well, pay attention to the finer details, do your homework and demand substantial down payments.
As a specialist in owner financing of residential properties and a teacher to students across the nation, I am often asked about the default rate.
Nationally, in 2010, the default rate for subprime loans was about 10 percent, but those likely included options, adjustable-rate mortgages and other variable interest loans.
I can’t speak for all owner-financed homes, but I can tell you about my personal experience in San Antonio, Texas.
• When I get 5 percent down, my default rate is around 15 percent.
• When I get 10 percent down, my default rate is around 8 percent.
• When I get 15 percent down, my default rate is around 3 percent.
• When I get 20 percent down, my default rate is practically 0 percent.
But it may not have everything to do with just the down payment.
We Do Our Homework in Evaluating Potential Clients
We also do our homework at my office. We look at every potential buyer’s history—credit, criminal and rental. I have turned down some pretty good down payments in my career because we didn’t like what we saw.
We shy away from buyers who are in the middle of financial troubles. To loan money to someone smack-dab in the midst of monetary strife doesn’t make much sense; you just become another one of their late payments. Yes, we make subprime loans, but that doesn’t mean we have to bludgeon ourselves.
We don’t stop at the first sign of bad credit scores, either. Let’s face it, as owner financiers, our niche is to find good people who have had bad things happen and then recovered.
We try to find out why and when the late payments and defaults occurred. Credit scoring companies are not so forgiving. It’s possible that the potential buyer’s personal problems happened years ago, but for the last few years, things have smoothed out for them. They’ve recovered.
This is when we start asking, “What happened between X-date and Y-date that caused your financial debacle?”
It could be health reasons, the death of a breadwinner spouse, divorce, layoff or injury due to an accident. There are very viable reasons for a momentary breakdown in pay history, and it could happen to any of us.
We listen closely. Excuses? Or logical reason?
Listen Carefully for the Full Story
The next question is, “What changed?” We can see from the credit report that on around Y-date this person starting getting back on track. How or why was this person able to recover?
I once interviewed a potential buyer whose finances seemed to have collapsed five years ago, but was a perfect payer for the last three years. When asked, “Why the collapse?” she explained her husband had died in a car wreck. He made good money, and she was a stay-at-home mom with three kids and no income. When asked, “What changed?” she replied, “I married a man who makes twice as much as my late husband did.”
Made sense to me. I sold her the house despite her 480 credit score.
I’ve had drug dealers want to give me plenty of down payment—$30,000 to $40,000 or more. No dice! I don’t deal with thieves or drug dealers, period!
When we search criminal history, we’re looking for violent offenders or repeat offenders who never seem to learn their lessons. The last thing we want to do is to owner-finance a home to a someone who shot his last landlord because he was persistent about collecting payment.
You can learn a lot about a person by watching how he or she deals with you. When a potential buyer says one thing and then doesn’t follow through, that person is giving you clues as to how the relationship is going to go. Did the person also mention having $10,000 down payment available, but then showed up with only $7,000? Did he or she say the money would be delivered on Thursday, but didn’t call and didn’t show up until Monday? Were there weak excuses for this person not keeping his or her word? You may want to pay closer attention; this is how this person is going to pay you—late and with lame excuses.
You can also learn a lot about a person by just listening well. I like to ask enough non-business-related questions to get prospects talking. It’s amazing what they’ll tell you.
I had one lady tell me she and her mate planned to pay the house off early once they both settled their lawsuits. Apparently, both of them had “slip-and-fall” cases pending. One fell in Walmart, and the other at a major grocery store outlet. Well, well, well … absolutely not!
Another man told me he didn’t want his live-in girlfriend on the documents because he was going to dump her. Unfortunately for him, she was the only one making the money, and she was the one responsible for the down payment. I sold the house to her! She’s still living there and making her payments. We never saw him again.
What Else to Look For
I pay particular attention to the kids of my potential buyers. If their kids are running around, out of control and smearing all manner of things on my office walls, I know my house will be a disaster in 30 days or less. We look for adults who take control of their household.
I look at the cars my potential buyers are driving. You can learn a lot from looking inside a prospect’s ride. Is the car a mess with the dashboard loaded with trash and unopened mail? That’s how that person’s life runs. Is the car make and model way over the person’s pay grade? That could indicate living above his or her means.
A personal conversation with the prospect’s current landlord is a must. But beware, some landlords will tell you what you want to hear just so they can get rid of their “pain in the butt” tenant. It’s happened to me before.
If you think you need to go the extra mile, find an excuse to drop in on your buyer. See if you can get invited inside the prospect’s residence to talk about something. While inside, take note. Do you see pride or anarchy? When you see how people live, you can see more of who they really are. You’ll also see exactly what your property (your collateral) is going to look like within weeks after they move in.
There is more to finding the right buyer than you might think. I’ve learned to trust my gut. If I have a bad feeling, I work harder to find evidence to substantiate or repudiate my instincts.
You can go a long way to lessen your default rate by listening well, paying attention to some finer details, doing your homework and demanding substantial down payments