What is Transactional funding?

As you learn real estate investing, you need to know how transactional funding works for closing deals. One thing that dominates your degree of success is finding money to complete deals. Most new investors think that you buy a property, go to closing and get a warranty deed and then you own the property. This is correct but it is the hard way to do real estate.

When you buy and close on a property you need large amounts of money for extended periods and you run a risk of the market changing or your having paid too much and you are unable to sell the property. Doing wholesale deals does not require cash, credit and there is no risk if done properly.

Most wholesale deals are referred to as an A -- B and B -- C transaction. In this "equation" the "A" party is the original seller, say a homeowner or landlord. "B" is the investor who is wholesaling the property and "C" is the end-buyer who will hold the property for a rehab or flip.

Ideally if the investor "B" can use the end-buyer's money to close the first leg of the transaction he would need no money for the deal. However, this is often impractical but not illegal as many uninformed agents and attorneys might tell you. It has to be done correctly, but it is not illegal to use transactional funding.

What every closing agent who is knowledgeable should allow is what is known as transactional funding. This is where a lender loans the amount of money for the investor "B" to purchase the property for the few hours it takes for the end-buyer "C" to come to closing with his money to purchase the property.

The transactional lender wires in the money to the closing agent the day before or the morning of the closing with clear instructions not to close on the A -- B leg unless all the closing documents are signed by the "C" buyer. In addition, the end-buyer's money must have been wired in and cleared before the A -- B leg is completed.

If the funds are wired by both parties, the transaction should be riskless. The two transactions are completed within an hour or so of each other and the transactional lender's money is wired out the same day. Cashier's checks are not an acceptable form of payment because they can be counterfeited so easily and they can be stopped by the person who got the cashier's check.

The transactional lender in this transaction charges some fees for use of his money. Typically the transactional lender doesn't charge interest but charges what are called "points". One point is one percent, so in a loan of $100,000 for a few hours, the transactional lender receives $1,000 plus any additional fees he may charge.

While $1,000 as a loan fee may seem hefty, it is in fact cheap for the investor who has no money to complete the transaction. If the investor makes only $5,000 on the deal, his return on capital is $5,000-$0 equals an infinite return.