What if I told you that you could get into property investing with a significantly smaller sum of money, with lower risk and higher returns?
You’d want to know more, wouldn’t you? Welcome to the world of alternative property investing.
In this article, I’m going to go into a deep-dive on one form of alternative property investing to help you understand what other options are out there beyond traditional methods that we’re used to – being the “bank”.
Understanding Bank Loan Instruments
In Australia, we’ve got one primary (read: traditional) method of investing in property.
The process involves you as a property investor to save enough money (usually 20%) for a deposit and then apply from the banks who will cover the difference in purchasing the property you want. Most loans in Australia are structured for 25 to 30 years involving repayments of interest and principal.
If you analyse how banks in Australia structure loans, you’ll soon realise that they position themselves never to lose – they get paid no matter what.
- If borrowers aren’t able to meet their repayment obligations, the banks repossess the property.
- They require that borrowers put up a significant amount of capital so that the risk of borrowers walking away from the deal is extremely low
- During downturns in the market, banks have additional fees and require that you contribute more capital to gain access to loans
So by learning how Australian banks minimise risk while still maximising return, you can apply these learnings in the American real estate market.
While you can potentially do such deals in Australia, the amount of capital an individual needs to be a lender is in orders of magnitude higher than if you were to do this in the U.S, meaning it can only be done by a tiny group of wealthy individuals or entities.
How Becoming the Bank Works
The American real estate market, my area of expertise, possesses a whole raft of property investment strategies beyond what we know here in Australia.
However, the main challenge for Aussies to get into the American real estate market generally boils down to two things:
- Access to deals
- Knowing the right people (dealmakers)
In the American real estate market, you can become the bank with as little as a few thousand dollars up to $150,000, which is generally the sweet spot for this kind of strategy.
But you also may be thinking – why would someone borrow money from you rather than the bank?
And the answer to that is that the borrower often isn’t able to get access to “traditional” funding from a bank for various reasons such as:
- Being self-employed
- Insufficient collateral
- Insufficient operating history
- Weakening economy and many more reasons
Which leads to the next objection I often receive:
Deal Makers
Wouldn’t it be riskier to be the bank then?
The key to this is knowing the right people – the deal makers.
Dealmakers are the wheelers and dealers who help bring lenders and borrowers together.
While the idea of a deal maker is reminiscent of snake oil salesmen preying on vulnerable and desperate families, this can’t be further from the truth.
In my network of dealmakers, these are people who have had decades of experience working in the finance industry. They usually work within an exclusive network that generally isn’t accessible unless you have a mutual connection or you’ve been introduced by someone.
Aligning with the right deal maker changes everything.
Dealmakers can help you perform the appropriate due diligence on the property, as well as to help structure the paperwork in a way to safeguard your investment – just like the banks effectively.
Lastly, deal makers minimise friction by providing constant, qualified deal flow to ensure that the process of becoming a regular lender is much more comfortable.
Benefits of Being the Bank in the American Real Estate Market
Remember those loan structures that Australian banks use? You would apply the same practices on your loans to ensure you never lose:
- Have borrowers contribute a significant amount of upfront capital – usually 30% to 40% of the value of the property, to reduce the chances of defaulting
- Repossess the property if the borrower(s) aren’t able to meet their repayment obligations
- Introduce additional conditions and fees if the borrower(s) are a higher risk profile or if there’s an economic downturn
Diversification
Another critical pillar of smart investing is diversification.
The American real estate market has a significant edge over the Australian market as it offers a broader range of deal sizes and shapes. This means that a significantly lower amount of capital is required when compared to Australia.
Rather than putting a million dollars in a single deal, you have the opportunity to spread that same million dollars across a multitude of deals. With the help of a deal maker, you can diversify based on
- Deal structure
- Geography
- Type of housing
- Market prices
- Liquidity
And much more.
No More Tenants & Toilets
What’s most exciting is that as you’re now positioned as the bank and the borrower is the one who’s responsible for the upkeep and maintenance of the property.
Property maintenance and sweat equity is something that many investors overlook. By being in pole position as a lender, you have the luxury of not dealing with tenants and toilets.
Property management is a full time that requires time and money that the majority of property owners prefer not to deal with if they had a choice.
Key Takeaways
The perception that alternative investment opportunities are high-risk and high-reward is a myth. This misconception is mostly borne out of a lack of understanding.
It’s important to understand that for the strategy to work; it’s as much about what you know vs. who you know.
Having a trusted and high-quality deal maker who is aligned with your goals will not only ensure excellent deal flow but will also significantly accelerate the rate of return on your investments.
