South Florida Rehab Opportunity Turns Into Development Deal

Hi,

I have been investing in real estate full time in South Florida for the past 18 months. Before becoming a real estate investor I built and ran two small technology related companies (one an Internet service, another a consulting company). I made some money and lost some money in those ventures, but I got through the bust with some great experience and a little pocket money to invest.

So far I have rehabbed four condos and flipped / wholesaled one property. All of the deals have been quite profitable, and I've learned quite a bit. I've only been working 20 hours per week, and now I'm looking to step things up a bit. I found most of my deals from the MLS. Basically, I either show up within the first three days of a listing any pay all cash for something (usually the takers are pre-pre-foreclosure) or I find the latent motivated sellers with 60-90 day old overpriced listings.

Recently, I've started advertising with a 'bandit' ad in the local newspaper, and I've just started ramping up my direct mail efforts. The direct mail lists come from NODs/lis pendens and addresses and owners I've gleaned by driving around to find vacant properties.

One day I got a call from one of my direct mail letters. I answered the phone and heard 'Hi, I received your letter. I just had a break-in at the property and I don't want to deal with it anymore. I'm ready to sell. I'll give you a good deal.'

Basically, music to my ears. I was a little surprised that I got a qualified seller like this, after only maybe 50 mailings. The seller and I made arrangements to meet to visit the property.

First, a little about the property. It's a apartment building with a single family residence attached. It's located in a very desirable area. I'd rather not state the exact area, but it's prime South Florida real estate. The property has been vacant for 5 years. Before that, there are obvious signs that little or no maintenance occurred.

The seller is in his late 80s. When I picked him up, he said that he had an offer for $1.4 million for the property from some Europeans, but that he didn't want to sell to "those people". He said he also had an offer from a couple members of a certain racial group, but he didn't want to sell to them either. He said "I like you, you're American, I'll sell it to you". He has stated that he is not that interested in the money.

I didn't make any offers during our visit together, but every half hour he dropped his price by $100k. Part of the price dropping could have been based on our growing relationship. Part of the price dropping, I believe, was the condition of the place. The floors are wood, termite infested, and sagging. The bathrooms are too small to meet current code. The roof is collapsing and there's water damage on the walls and floor. The dark specter of mold is probably lurking.

Keep in mind that I did not make any offers during the meeting. I used consultative sales and listening skills and let him talk. By the end of the meeting, he communicated the following to me:

- He would accept $1.1 million
- He offered $500k in seller financing, with no payments for 5 years (I didn't have to ask for this, he offered it.)
- He stated his second option would be to sell it to his nephew for $600k.
- Based on our conversation, I don't think he much confidence that his nephew will be able to redevelop the property (I think he believes his nephew will try and fail at rehabbing/developing it, or his nephew will simply flip the land).
- He doesn't want me to flip the property.
- He doesn't want me to knock the entire thing down.
- He has two approx 70 year-old sons. They are both retired and not interested in doing something with the property. He just gave each one of them a $150,000 condo, so he doesn't believe they are aching for cash immediately.
- He said he wanted to keep the name of the place, and certain elements of the property that were emotionally meaningful to him. He lived at the property for 20 years and obviously has some deep attachments and memories from the experience.
- He said he dislikes Realtors, and that they want too much money for not enough work.
- He said he liked me and didn't like the other people who visited with him. Not sure if I'm being snowed here on this one.


After our initial meeting, I decided to bring in a couple of advisors / family friends who have 30 years experience rehabbing. To make a long story short, they said the place is a tear down. The termites, code violations, and inefficient use of the land footprint all contribute to this. We also found two certified mail notices from the city at the location. We brought these to the seller. We expect that these are violations of some sort.

After recognizing that it will not be worth the time or money to rehab the existing structure, I began to think about doing a new development deal. While my experience is in rehabbing, I have access to experienced lawyers, developers, and other folks who have development experience.

After I started thinking about the development deal, I called a friend who is a licensed realtor, owns his own mortgage company, and is a graduate of Cornell Hotel School (useful if you go condo / hotel with the deal). We are contemplating partnering on the deal. I told him 'I went hunting, shot the deer, and dragged it back to the cave, now you clean and cook it.' basically meaning that I've done the work thus far, be prepared to spend some time at City Hall and working with your development friends. We're considering putting together an LLC or an LLP 50%/50% each, with each contributing capital as required.

First question: Is this structure fair for me as the guy who found, qualified, and sold the deal? As long as he carries the ball from here on in, I think the deal works out for me. I will certainly do work on the deal, but he has to know that he is in the general manager spot. He's got some very good connections with investors, developers, city folks, etc. so I think the deal is not too bad.

My potential partner and I have put together the following deal structure to present to the seller. We are trying to beat the offer from his nephew by a little bit, and then tie him into the deal emotionally via a kicker later.

1. We're going to 'redevelop' the property to restore it to its original glory, as best we can given legal, zoning, and financial constraints. In our proposal, we are not promising that we can completely salvage the existing structure. We would if we could. We're not sure we can. We may be able to salvage one wall of one of the structures in order to facilitate development. More research is required in this area.
2. Seller receives a small cash component at closing (up to $50k total from the two of us is what we are thinking)
3. $600k in seller financing, 5 year balloon payment, 3% interest (we both have excellent credit and money for down payments, so we're not going to overpay on interest. our argument is that the 3% is better than treasuries. he already offered $500k in seller financing with the same terms, so we're hopeful on this one. we will also communicate to him that the lot and buildings will not appraise well in their as-is condition, so he can't expect a buyer to come with conventional financing)
4. An equity kicker - a contractual obligation to provide him with either a set bonus payment at a future date or a percentage of proceeds should the LLC/LLP be liquidated. This would not be equity ownership in the LLC/LLP which would require extra communications and participation. Also we don't want any shareholder lawsuits. We do want him to feel like he's involved with the project, though.
5. We take on full maintenance of the property, including: cure any violations with the city, pay the taxes, insurance, ongoing grounds maintenance, evict / remove any homeless living there, etc. we get it out of his hair
6. We expect to pay out of pocket for the upfront development phase (hiring architect, permit and zoning work, maintaining the property, curing any violations, insurance, etc). this reduces the amount of out-of-pocket cash we can give him at closing - basically he needs to understand that most of our cash investment will be consumed by the development costs, and that we can't give him a very high sum in cash up front
7. The contract would have 90 - 120 days to closing.
8. 60 day inspections, during that time we will make sure that the land can be used for our intended use (apartment and/or hotel and/or condominium). Also gives us time to talk to developers, lawyers, get funding for development etc.

What do you all think of the structure? Are there other ways to structure the deal that will provide tax advantages to the seller?
Are there other things we should offer?
Other things we should get?
Other things we want to avoid?


Some other notes...
1. We believe the land value is approximately $1 million, but we're not willing to pay $1 million for it We have excellent comps to make us feel comfortable about what the land is worth.
2. Based on our current understanding of the zoning, we believe we can get a five story structure (first floor parking and entry, four floors of units, plus roof components (hot tub, sauna, steam room, outdoor shower, deck, bbq, etc))
3. Developed value based on this analysis would be approximately $5.5 million
4. Development costs are estimated to be $2 - 3 million
5. We don't believe it will be that hard for us to get construction financing, given our credit and our ability to put down more money



Are there any good books to teach the process of real estate development? Books that discuss the financial aspects, strategy aspects, not just construction?

Any South Florida investors interested in partnering on the deal?

Any comments and help would be much appreciated!