What You Missed March 2015 General Meeting
by Rob Earhart
The Art of the Deal
Presented by: Pete Fortunato
March 3, 2015
There are many ways to do a deal. One way is cash, but that’s the laziest way to do a deal. People don’t want cash, just what the cash will buy for them. I started out to be a real estate investor. What did that mean? That I didn’t want to work but I had to eat.
I decided I wanted enough assets to provide me an income. I didn’t have enough assets so I had to go out and acquire property with no assets of my own. “You use what you want, to get what you need, to get what you want.” Has anyone done that? Everyone has done that.
What happens when you watch a closing? Does a buyer walk in with all cash? No, the buyer uses the house they want as collateral to buy the house. They go to a lender and say, “if you give me money to buy this house, I will buy it.”
When I got out of high school, I didn’t have anything with which to buy. I went out to ask for help. I recruited allies while I was in school and am still. I got my real estate license in 1965 and earned $4,000 the first year. The next year I earned another $2,000 and then I bought my first house.
Profit is income for something business people bought for one price and sold it higher. What does an investor want property for? Income. The other persons buying are users who want to live there.
From my perspective, my favorite currency is promises: I give someone a promise and they give me a deed. So you need a lot of cash? No, you need a track record. People want to know you are trustworthy and competent. People are afraid of not feeling secure, but once they feel secure, they will sell you their property.
My dad was an appraiser. He would count the area, the copper, etc. and come up with a value. But value is personal. Everyone has that perfect house and all are different. When I started in 1965, the average value of a house in Boston was $17,900. What did the sellers want? Cash.
When you make statements about them they tend to get upset. I learned to approach them by negotiating. All opportunity is born of uncomfortable circumstances, such as death, divorce, job transfer, etc. It’s all personal. You’re not dealing with the Tampa market or the Pinellas market, but the local market.
I always ask, “Why would you sell a nice house like this?” Do they always tell you exactly why? No. The first house I bought in Boston was a three-family house. They lived in one unit and rented the other two. When he said he wanted to get his $3,500 back, I knew I had an opportunity. When I asked why he said that, he told me he got a great job opportunity in another area.
What happened to the value of the house? Nothing. But what value changed for him? It went from a great house to a burden. So I bought that house on Thorndike Street and rented it for several years until I exchanged it for a single-family house.
When I asked why they needed cash, they said it was none of my business. “If I gave you $17,000 in cash, you would give me your house?” Yes. “If you have two houses, do you have vacant house insurance?” I ask that to get them thinking about the expense. “Do you keep the utilities on or just let the mold grow?” “Do you have to pay taxes on it?”
“If I gave you $17,900 in cash and I came back in a year, would the cash still be sitting on the table?” They tell you, “You’re nuts!” Why? They want to pay bills and enjoy the things that money would buy.
I had a realtor tell me their client needed cash to pay off a hospital bill. I wanted to make an offer to take over the hospital payments in exchange for the deed, so I wanted to meet with the broker and her clients. I asked the seller, “if I pay off your hospital bill, is there any reason I could not get your house?” I had her call the hospital and talked to the agent. I said, “in the event I could pay $250 per month until it was paid off, is there any reason we couldn’t do it?” That was my first zero-interest purchase.
How do I find a house to buy? I walk into a neighborhood and ask everyone, “I’m Pete Fortunato. How long have you lived in this neighborhood?” Then I ask them, “Would you please call me if you hear of an excess house for sale in this neighborhood?” I leave a piece of paper with my name and number and they say, “Sure we will.” It may be years later that they call me. If you are referred by a neighbor, it is much better than if you talk to them cold.
Pete then went through a deal that traded three 2/1s for one big house that allowed the seller to move into one and rent the other two out for a lower payment.
Pete advised, “I get a lot of people who can’t handle stairs, so I then get them into a condo with an elevator and buy their house.”
I had a lady in 1971 that wanted to live in an exclusive neighborhood but could not afford to buy it. I sold her a life estate. She could live in it until she dies, then it would revert back to me. She was 96 and moved out to live with her cousin. I didn’t want it to be vacant so I talked her into letting me rent it out and the money would go to her. She collected that money for 4 years and just died at age 100, so I was lucky to have stayed in touch with her. That house is easily a half million dollar house now. I earned the $35,000 up front and now have a nice house.
“Why would there be a 1031 program in the tax code?” asked Pete. “It’s called continuity of investment.” It becomes easier to manage. The IRS just waits until the final product is sold, then they can tax the proceeds. The 1031 is not a trade but a sale and repurchase. There is a bill pending that would eliminate the 1031, but it would not affect my trading a house for 3 houses and no money changes hands. It cannot be taxed then.
When the rates went to 6%, I took a CCIM course which is great for understanding numbers. It stand for Certified Commercial Investment Manager. What is cap rate? It is “net operating income divided by the price equals the cap rate.” “You should learn the math to be able to build a good deal,” explained Pete.
The national apartment association says last year that the NOI is averaging 44% of gross. If the sellers say they are netting 80%, either they are lying or there has been no maintenance. The houses I buy in Pinellas lose 40% to expenses. If the NOI is $9,000 and the sales price is $120,000, then the cap rate is 7.5%. If you paid all cash, that would be your yield. If you are happy with that return, then buy the house.
Peter then explained how to use the cap rate to determine if the return will facilitate the financing of the loan with a 50% loan, 40% carry and 10% down payment.
Deals are constructed by finding out about the people, finding their uncomfortable zone, and knowing what they want and getting it for them. I had a deal that the guy wanted a pink Oldsmobile for so he could go to his 40th college reunion. We bought the car and traded it for his house.
“I have a great opinion of my opinion, so I appreciate your attending tonight,” proclaimed Pete. “And thanks.”