Good formula for lease payment


#1

For l/o a park, are there any good formulas to come up with lease payment on 2 options; 1) lease payment including insurance, and tax and 2) lease payment without ins/tax.

Is 35% of the gross income a reasonable lease payment offer to a decent condition park?

Thanks


#2

Hi James,

Great to see that you’re still working to get a park. I have never done a lease/option and was waiting for someone more experienced to give you their opinion. So take this for what it’s worth…just another way of looking at it.

I personally would approach the owner in this way: find out what the NOI is for the property (with actual expenses, taxes, etc. figured in). Then offer him about 20% less that per year as the L/O payment. The selling point would be that he won’t have to do any of the work, stress, investment, etc. to continue getting a nice revenue stream from this property.

You will be improving the property and have the option to exercise the option at the end of the lease term. If you decide not to, he will have a better property to sell at that time because of the improvements and higher occupancy rate.

Again, this is only how I would approach it. I’m sure that others who are more experienced that me can help you out (and that just about means anyone else on these boards!!!).

Good luck,


#3

Thanks Rick. Good info. I was thinking, based on previous Greg’s l/o, his lease was about 35% of the gross income that was why I picked 35%.

With 35%, my estimated cashflow after expenses should be about 5k-6k; the lease payment will be around 5800/mo(including current ins and tax). Well still have some work to do. The owner is an retiree, own park free and clear, wanted 2mil for 50 space plus a small rental house, space rent around 380, no park owned, on cesspools which I don’t like, park need to be cleaned up, older and urgly looking MH’s no shirt mostly, have some city code violations etc.


#4

Rick’s approach is a solid starting point. All lease options are a product of negotiation which gives deal makers a lot of room to be creative. Let me make these additional comments:

I always like to determine in percent form what the lease costs (think of a NNN lease payment as an interest only mortgage payment if you also own an option to purchase.) So a very important distinction and tool for our toolbox is this - A lease is used to negotiate CASH FLOW AS IT RELATES TO BUYERS AND SELLERS PERCEIVED EQUITY and an option is used to negotiate APPRECIATION AS IT RELATES TO BUYERS AND SELLERS PERCIEVED EQUITY.

Let’s look at an example scenario:

You find an opportunity where a park cash flows to the seller before the mortgage payments 100K per year and you can lease/option the park for 1M.

Park’s current owner also owes 500K and pays 7% interest, 20 year amortization, balloons in 7 years, monthly payment is 3876.49 = 46,518 per year

Park owner currently Cash Flows: 100K - 46,518= 53,482

You convince park owner to lease you the park for $40,000 per year (NNN - you pay for everything including his/her mortgage) - don’t forget to remind the park owner that the debt is also being reduced via the amortization schedule which gives him/her more equity as time goes own. You may also want to have your option price go down over time to mimic an amortization schedule - all part of the negotiation process.

What does this mean in % form? If you don’t have to put up any money then in essence the seller is giving you a 500,000 loan for 40,000 per year = 8% interest only and you will be “assuming” the 1st mortgage @ 7% - but the seller gets the debt reduction unless your option goes down every month too.

Now what happens if you have to put up a 100K? Now you are “borrowing” 400K @ 40,000 = 10% interest only. I would work hard to convince the seller that the more money you put down the lower the lease payment needs to go - just like any other type of financing. Or, what if you give the seller 100,000 and 40K goes towards prepaid rent for one year and 60K goes towards the option? Do you see the art? Now don’t go scaring the seller with all this stuff - learn how to show him the picture without him watching you paint.

Now, by understanding these techniques you will have a better idea when you should simply buy and when you should lease with an option. AND, you can also use this to understand when you should sell! For instance, I have sold lots to “home owners” for twice what the lot was worth based on the rent - why did the homeowner buy? Because their “tin can” became real property as soon as they bought the lot and for many the premium they paid for the lot came back to them because the home with the land was also more valuable. In fact, I would venture to say that none of them really even thought they where paying a premium because most of the world does not understand how this works. The goal is to know when retail asset prices exceed the cash flow value that the lease provides.

Let me give you one last really good example of this phenomenon in today “buyers market”. I know a very wealthy man who hasn’t owned his personal residence for many years because he understands this principal. Let’s say you want to upgrade your personal residence and let’s presume you find a really nice $1M home that you can buy in today’s market for 750K - but you also find out that the seller has the property listed with the realtor “for sale or for rent” because the seller needs to stop the bleeding somehow and the rent payment would be $3000 per month and the seller pays taxes and insurance. Do you see how powerful this knowledge can be? A $36,000 per year rent payment minus taxes and insurance may only net the seller 15,000 per year or even less! 15,000 / 750,000 means that if you could lock in an option @ 750K the seller would be in essence financing you at 2% (you could even offer a small premium since the financing is so cheep)! One thing to be careful of - make sure the seller does not lose the house in a foreclosure since he/she could be seriously subsidizing the deal). This technique is a very valuable one anytime asset prices far exceed cash flow valuations. By learning this it will help you to know when to buy, when to lease, and when to sell.


#5

I learn a lot from your info. I am in So CA and REO’s are everywhere. On the other hand, l/o might be tough perhaps as prices continue to go down probably until the end of next year. However most homes that were bought a few years back are up side down; so it would make it hard to l/o I think…also I am looking to start flipping REOs after minor rehab to retail buyers using hard money or private investors.

“Let me give you one last really good example of this phenomenon in today “buyers market”. I know a very wealthy man who hasn’t owned his personal residence for many years because he understands this principal. Let’s say you want to upgrade your personal residence and let’s presume you find a really nice $1M home that you can buy in today’s market for 750K - but you also find out that the seller has the property listed with the realtor “for sale or for rent” because the seller needs to stop the bleeding somehow and the rent payment would be $3000 per month and the seller pays taxes and insurance. Do you see how powerful this knowledge can be? A $36,000 per year rent payment minus taxes and insurance may only net the seller 15,000 per year or even less! 15,000 / 750,000 means that if you could lock in an option @ 750K the seller would be in essence financing you at 2% (you could even offer a small premium since the financing is so cheep)! One thing to be careful of - make sure the seller does not lose the house in a foreclosure since he/she could be seriously subsidizing the deal). This technique is a very valuable one anytime asset prices far exceed cash flow valuations. By learning this it will help you to know when to buy, when to lease, and when to sell.”

On the above do we offer 15,000 or 36000/year to the seller with option at @750000 in this case? I would imagine a seller will take 36,000 but not 15,000? To add in order to prevent foreclosure, we can setup a escrow or note service company to hold and pay our lease payments directly to the lender, ins co, tax county directly possibly. This will make the seller more comfortable and we get tracking records and receipts of what note servicing company pays.


#6

Jamecc,

I know this example is off the MHP topic line but there are some good lessons in it. The example I gave you is an actual offering by the Realtor who represents the Seller. They will sell for 750K, it has a tax assessment of $1M although it is Homesteaded in Florida which gives the seller a significant break on taxes, or you could rent the home for 3,000 per month (36,000 per year). Please keep in mind that this exercise is ONLY of value if someone would actually want to live in such a home. I guess you could sandwich lease such a home to someone else but I would not want to be on the hook for 3K per month to a homeowner only to have my one tenant NOT pay me - so again, only relevant if you actually would want to live in such a house.

Now, the rent with right to buy would have to be pitched to the Realtor and Seller but the deal is almost teed up for such an offer anyways. If you wanted a good shot at an option I would say this to the Seller “I need to rent your home right now for the 3,000 per month because I like to have my cash tied up in properties that actually make me money. But, should I sell one of my projects I’d like to have an option to purchase your home as long as I’m renting it. Since the Market seems to be tanking I’m actually willing to sign a purchase option for the $750K your asking for even though the home may be worth even less then this a year or two from now.”

And, in all actualality - owning an option on such a property really does not matter as long as you own something else that actually makes money - like a MHP!

2-5% money is simply very cheep. It is way less then real inflation. In other words, if a potential buyer had 750K in cash they would lose more then 36,000 per year simply because of the devaluation of the purchasing power of the dollar.

Scary stuff!

Post Edited (07-25-08 17:20)


#7

The seller owns the park free and clear, wanted 2mil(5 cap) for 50 small spaces full at 380/mo lot rent only, a 2 bed rental house, laundry building, his gross income $210696, expense total $86960, noi $123736. I am thinking of offering 5865 (35% off NOI…my cashflow might be around 3k-4k) and also pay his ins&tax. Park has old /urgly homes, small/narrow paved roads, about 1.5 to 2 acres. Upside is raising rents, put&rent some storages…I am thinking exit strategies might be to collect nice cash flow and gradually improve the park, and then maybe assign the option in the next few years?

25% of lease payments credit toward the option price say 1,750,000 when exercise. He is only responsible for major infrastructure, liability (due to fire, deaths, injuries)


#8

That’s the beauty - it’s all a matter of negotiations :slight_smile: The lease controls cash flow and the option any potential equity appreciation. Good luck and let us know how it turns out!