In our previous chapter, we talked about double-closing (a way to spend almost zero capital down) as a legal method of wholesaling real estate.
This time we’re digging into a more controversial one using a very specific vehicle: the “assignment contract”.
While doing your research, you’ve probably heard or read that wholesaling using “assignment contract” might be illegal.
It can be.
Understandably, it scares a lot of people so this post will go over all the fundamentals:
- What is an assignment contract;
- How to use them in a wholesale transaction;
- How to avoid doing something that might put you in trouble;
First and foremost, an assignment contract serves to hand over contractual rights or responsibilities to another person/entity.
For example, in a wholesale transaction, you’ll need to assign your contractual rights on a designated property to another investor so he can assume your responsibilities, including the purchase of the property to the agreed upon terms of the purchase and sale agreement.
In other words, as a wholesaler, you’re buying the “right” to buy a property for the purpose to sell it right back to another buyer (usually an investor).
The problem here is that it looks a lot like brokering which is of course illegal if you don’t possess a broker license.
Legally, the act of brokering is when you “broke” the interest “for another” in exchange for a commission.
As a wholesaler, you’re not brokering the interest “for another” but selling “your” interest in the property in exchange for a commission.
You’re basically selling a contract saying you have the right to purchase a piece of property.
This last bit has an effect in your ability to advertise. (if you didn’t find an end buyer yet).
Since you only own the “right” to purchase the property, you’re only allowed to market the contract and not the property itself.
You can’t advertise a picture of a property under “assignment” because it would mislead people into thinking that you actually own the property.
The fact that a wholesaler is transacting for its sole interest is what makes it different from being a real estate broker who doesn’t own any interest (“right”) in a transaction where he’ll be advertising and brokering “for another”.
If you happen to advertise what you don’t own or have interest in, you’re putting yourself at risk of being fined by regulators (which they do).
Now, you won’t own an interest or “right” in a property simply by convincing a seller to put his signature on a contract.
There need to be a specific amount of money in exchange. Remember, you’re “buying” a right.
Owning an “interest”
Buying an interest in a property, and be able to wholesaling legally, can’t be free.
Lots of people think that once they convince a vendor to sign a purchase and sale agreement they ultimately own an interest in the property and can now proceed to find a willing investor to finalize the transaction.
You can’t just run around town tying up property. It would be too onerous for the seller.
When a seller sign a purchase and sale agreement, it creates a legal “lien” on the property that needs to be removed if they want to sell to another buyer.
Contracts on a house are a serious business.
Instead, a right to buy the property (interest) needs to be bought at a price other than a nominal amount and needs to be reflective of your intent to eventually buy the property.
This is what we called earnest money and it can’t be $1 or $10.
The earnest money needs to reflect the economic value of the property.
At worst, $100 dollars can be adequate earnest money for a property over-leveraged and 3 weeks out of foreclosure.
But in most cases, the economic value will be more. As should be the earnest money.
The whole situation needs to be examined which is what regulators will do if they think the transaction was illegal. (which again, happen)
The common scenario is when a wholesaler tied up a property only to vanish without advising the seller that he didn’t find an end-buyer or even worst, never informed him that this was his intent in the first place.
What you’ll get is an angry seller calling the local division of real estate and you’ll be in trouble.
Doing it the right way
It’s all about protecting sellers. And you.
Signing a purchase and sale agreement for $1 doesn’t help the sellers nor that it shows your true intention of buying it.
If you don’t end up buying the house you’re also at risk of being sued for breach of contract. (that happens a lot too)
This is why showing your real intent by providing your earnest money is so important. You won’t be liable if you had a true intent of buying the house through wholesaling.
After all, there’s a plethora of situation that could arise in due diligence preventing you from being able to buy the house.
Take it seriously and provide a good faith amount or wait and double-close instead.
Do it this way and you’ll make good money while helping people sell their house.