In the past, I’ve discussed several different ways to get finance your real estate investments. This includes traditional lending, using a hard money lender, finding other investors, and investing IRA funds through a self-directed IRA. However, there is another way to find capital known as transactional funding. This type of funding works best for those flipping houses that require little to no rehab work or wholesale deals. Although not used often by investors, it can be quite beneficial for the right real estate deals.
What Is Transactional Funding?
Transactional funding, sometimes called wet funds, is money lent for a short period of time. In many cases, the time is less than 24 hours but may be up to three days. Some lenders provide extended transactional funding, but this is really another form of hard money lending.
The point of transactional funding is to facilitate a short-term transaction. That’s why wholesalers and fast house flippers are the most likely real estate investors to use this type of financing. Since transactional funding is available immediately, it is perfect for those who want to get in and out of a property deal quickly.
A record number of houses were flipped in 2017. The ATTOM House Flipping Report shows over 200,000 houses flipped. Many experts feel that number will rise in 2018 as foreclosure inventory increases and home values go up. However, since traditional lenders still have such stringent lending requirements, transactional funding will likely become more prominent in the real estate investing community.
Why Transitional Funding Became a Funding Option
Those who wholesale properties either get funding, which is difficult to do quickly, or they have to do one of the following:
- Have available cash and then sell the property quickly
- Get an assignment fee for assigning the contract
Although some investors have cash available, this is not true for most. Even those with cash on hand limit themselves to deals they can readily afford. This can leave great deals on the table.
For those that assign contracts, this can be a good money maker. On the other hand, this can limit the profits available to the investor. Assigning a contract makes you the middleman. As a middleman, you can only expect to make a small profit since end buyers will cut you out and go straight to the source if you try to take too much of a cut.
In years past, investors got around this by double closing real estate deals. In this way, they would use the end buyer’s money rather than their own. However, in many states, double closing is now illegal.
However, with transactional funding, this dilemma ceases to exist. Investors have the money needed for closing, and this lets them resell for higher profits in a second closing.
How Transactional Funding Works
Transactional lenders facilitate the closing of two transactions. The A to B transaction, where you are buyer B purchasing property from the original seller A. The second transaction is from B to C, where you sell the property to the end buyer C.
Let’s look at an example. You find a property for $250,000. It needs work and has the potential to be worth nearly $500,000. Nonetheless, you don’t want to take time to rehab and flip the home. Instead, you have a rehabber who will pay $325,000 for the property. The transactional lender gives you $250,000 to purchase the property. This is the A to B transaction. Once the property is yours, you sell it to the rehabber. This is the B to C transaction. You have made $75,000 less the transactional lender’s fees.
As a side note, the longer you keep transactional funds, the higher the fees will be. Additionally, the requirements for obtaining the money will be greater as well.
Advantages and Disadvantages of Transactional Funding
There are many advantages and few disadvantages to transactional funding. Let’s look at a few.
- Credit scores don’t matter: A transactional lender will not pull your credit score. This is perfect for those with less than perfect scores or a high debt to earnings ratio.
- No other personal qualifying: In addition to not needing a credit report, transactional lenders will not ask for proof of income or assets.
- You don’t need your own money: Transactional lenders loan the entire amount of the loan. Most other funding sources require you to have a little skin in the game.
- Proof of funds letter: Transactional lenders provide a proof of funds letter showing the current owner that you have the ability to close on the property.
- Low fees: Of course, low fees are in comparison to hard money lenders. Most transactional lenders require two to three percent of the amount you borrow. Some may also have a minimum charge for loans under $100,000. There may also be a transaction fee of about $500. In the example above, the total fees would be no more than $8,000, giving you a profit of $67,000.
- No reports: Transactional lenders don’t require appraisals or other reports. This speeds up the process. Most transactional lenders can get you the funds you need within a week.
The main disadvantage is that you have just a short period of time to close the deal. You will not be able to get transactional funding unless you have an end buyer ready to close on the deal. This means you need to choose end buyers that are qualified and ready to close.
You also need to work with lenders that are willing to close on “unseasoned titles.” Whenever your name has been on a title for a short period of time, it is an unseasoned title.
So, if you see a great deal that can be turned around quickly, transactional funding may be the answer. To learn more about transactional funding or other real estate investment financing options, give me a call. I look forward to helping you.