Leasing Techniques For Acquisition With Options
Options hold a special place in real estate acquisition and in my heart
. Options are very easy to do and can be extremely profitable. So what kind of option do you use and when should you use it? Well, as the question suggests there are many different types of options. You can't just use the same type of option for all scenarios.
Let me explain some of the various types in more detail.
Options are rights to purchase without the obligation to perform associated with a conventional purchase agreement. In some highly leveraged cases, an option increases in value at a much greater percentage rate than would be possible with an outright purchase of the underlying property. An option also carries an implicit time advantage.
In fact, when you buy an option you really buy the time you need to choose an action. If you choose not to acquire the property under option, it will expire at the agreed time with no consequence other than the forfeiture of its cost (if any) without benefit realized by you.
The time you buy with an option can be put to many and varied uses. It's standard operating procedure to obtain a few months' option on land to run soil tests and check out the title and municipal requirements before making an all-out commitment to commercial development.
Options are also a useful speculation method. If you see progress moving toward an overlooked parcel of land, a well-negotiated option can put you in the position to profit. It's timing your commitment that will make the difference. If you move too soon and the buyers haven't reached you before the option expires, you end up out of the money. Of course, who's going to wait. If you're really out to profit by reselling the option, you'll probably know the likely buyer even before you commit. In any event, options can take many forms and are adaptable to a number of different circumstances.
The basic option structure includes the price and terms for purchase of the property, the date, the right to transfer the option, and a provision allowing for extension of the option. Variations on this structure center around how the owner is compensated for granting the option, including the amount and timing of payment for the option. These negotiable terms can have a direct effect on your profit if you plan to resell the property or develop it. There's a worse effect if you can't obtain the option you need. That should not be a problem if you're serious about ultimately buying and willing to pay a fair price for the option.
Whether option costs should properly apply toward purchase or rest as separate payment for the time the property is off the market is negotiable. In fact, it depends on which side of the table you're sitting on. Certainly you want to negotiate the best deal possible for you.
Interest option
An interest option is one of the easier methods of paying for an option. Although it is not quite as good for the seller as other option structures, it is a sound way to calculate option value.
With this approach, the option consideration is an amount equal to the savings account interest on the value of the property for the period of the option. The details vary with circumstance. In some cases the seller is paid only if the option is not exercised. If the option is exercised, the seller gets his price but no option consideration. Consequently, the option payment is compensation for loss of the sale and is made after the expiration date. If the option is exercised and the sale closes, there's no penalty to the seller (and no option payment) because he reached his ultimate objective-selling the property.
It makes sense to tie an option payment to the property value even if the interest rate is a negotiable item. The owner may prefer that the rate be tied to the prime lending rate or the consumer price index. In any event, there's considerable flexibility when you have an idea of the components that make sense in arriving at a logical amount.
For example, it may make sense to the owner if you also agree to pay the property taxes prorated over the option period. Although it may be a minor amount for a few months' option in light of the total sales price, the appeal to a seller can edge the negotiations in your favor.
Effort Option
Option structures are as flexible as the people negotiating them. Look at what you want to accomplish and you'll likely see an option method. An effort option stipulates that you will obtain preliminary development plans and all necessary municipal approval within the option period at your expense. If you don't exercise the option, the plans, engineering studies, and other documentation, including any lease commitments you've obtained, become the property of the seller.
Since the value of land is to a large degree determined by its use, this approach transfers a degree of uncertainty to the seller by allowing you to verify the property's suitability with no cost for the time needed to do it.
If the property proves to be unsuitable for development, all you've lost is the cost of investigation. The seller is not paid for the cost of discovering that his property is in-appropriate for the use you intend.
Turning over the results of your effort is simply a way to negotiate option control. The paperwork developed on a certain parcel has value even if it's only to eliminate a proposed use as part of the search to find the highest and best use. This option approach reduces your cost and covers a portion of the risk when there's a chance a particular location is not practical for your project.
Next month I will cover Letter of Credit, Rolling Option, Continuing Option, Increased Payment Option, Land Cost Option, and Real Property as Consideration options. It gets really good, so look for the next issue.
Mike Warren is an investor who is also an expert in the field of buying and selling pre-foreclosures. Mike's website http://www.freetips411.com offers 52 free coaching tips related to building wealth in real estate investing, loan mod's, DIL's, judgments, short sales and social media marketing for real estate and the internet.
by: Mike Warren
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