Assignment for next Mon.

• Read pgs. 39-50 in materials.• Find an article on Explanation of the Mortgage

Crisis on the web or in a magazine or newspaper. Read it and be ready to share!

Basic Real Estate Principles – cont.

You want to buy an apartment complex….

Talked about the first thing you do

• F

• Important factors to consider?

Once you find the bldg. you want….

• What’s next?• Inspections• Financing• Title Report• Rent Rolls• Occupancy rate• Estoppel certificates

What gives buyer right to do these things?

• PURCHASE CONTRACT:• Offer– Includes price– Financing terms– Inspection rights– Condition of title– Other terms?

• Seller – accepts, rejects or most likely, ?• Counters

Terms

• Equity– Examples:

• Own my home - no mortgages. How much equity if the house has a Fair Market Value of $1 million?• Apartment building - FMV = $5 million. Seller has a loan

on it = $3 million. How much equity?• Apt. bldg. FMV = $5 million. Loans against it for $6

million. Equity? Sellable?

• Definition? • Advantages to having equity?

Terms

• Leverage$100,000 cash in pocket.– Could buy 1 property with $100,000. Appreciates

10% in one year. Now worth $110,000.– Could buy 2 properties, each FMV = $100,000.

$50,000 down, loan on each for $50,000. Each appreciates 10% in one year. How much have you made? [Remember though you make mortgage payments too.]

• Definition of “Leverage” (modified from Investopedia)– Use of borrowed capital to increase the potential

return of an investment.

Down payment

• Define• Where does it come from?• Why does lender (generally) require buyer to put in $?• “Cushion” • Assume FMV = $500,000• Assume Down Pymt. = $100,000• Assume loan = $400,000• How much would property have to depreciate before

lender at risk?

Once “in contract”….

• Financing – What kind of loan?• List various possibilities:• Interest only: advantages? Disadvantages?• Fully amortized loan• ARM• 100+ variations

Found the loan you want….

• Bank – lender• What steps will (should) bank take (due diligence)?• Appraisal• Credit check• Verify employment/income• Verify other assets such as down pymt.

At closing (Close of Escrow)

• First –• How does buyer get title?• Lender will require buyer/borrower to sign ?• What does the note include?• What does the mortgage do?

Property encumbered by a mortgage

[Seller gets $ from buyer and lender – pays off loans.]

Buyer signs promissory notein favor of lendersecured by amortgage on thebldg.

Buyer gets title

Before getting into greater depth..

• Articles you found on real estate financing….

Promissory Note - pg. 33

• “jointly and severally”• What type of loan is this? How can you tell?• Prepayment• Acceleration• Due-On-Sale• Attorneys’ Fees• Security

And where did the process get off-track? Then we’ll examine why

• Financing process – pg. 27• Loan application• Loan analysis• Approval and processing• Closing• Servicing

Subprime Loans – pg. 34

• Application process: No documentation• Loan analysis – low credit scores; no

verification• Higher interest rates• Negative amortization

• Where does equity come into play?– “High debt-to-equity” ratio

Loan Analysis

• Appraisal – what was happening in the mid-2000s?

http://www.youtube.com/watch?v=MS5X8boUACI

Mortgages (called Deeds of Trust in some places)

• Your understanding?• Why does lender require this?• Bought car on credit?• Can a property have more than one

mortgage?• Why?

More than one mortgage…

• Assume Buyer buying apt. house for $3 million.

• Has $500,000 down.• Qualifies for $2 million loan from Bank – what security?• $500,000 short.• Solution?

$500,000 down

Second mortgage [junior]

• Goes to another lender – or even same lender• Why would someone lend additional $500k?• What would first mortgage holder allow this?• What is the cushion (margin of security) for

1st? FMV = $3,000,000 (purchase price)Down = 500,000

1st = $2,000,0002nd = 500,000

Any cushion for 2nd [junior]?

• FMV = $3,000,000 (purchase price)Down = 500,000

1st = $2,000,0002nd = 500,000

Would 2nd be “safe”?What happens if property values decline?

Seller Carry-Backs

• Assume same facts:• FMV = $3,000,000• Down payment = $ 500,000• 1st = $2,000,000And buyer can’t find a lender to loan the rest but seller wants/needs to sell. Solution?

How structured?

Term: “Under Water”

• Assume FMV declines from $3,000,000 to $2,000,000.

• First mortgage – balance of $2,000,000• Second - balance of $ 500,000How much would you pay for the property?

In order to sell whathas to happen?

Will discuss why borrowers defaulting – but let’s first look at the process

• Foreclosure– What does this mean?– What gives lender the right?– And – what’s the process?

• Same facts:• Value at time of default = $2,000,000• 1st loan = $2,000,000First forecloses; what is the highest bid?

Another Term: Deficiency Judgment

Assume same facts Value = $2,000,000 at time of default

1st has balance due of $2,000,000High bid = $1,500,000.Now what?And what about 2nd? (balance due = $500,000)