"Purchasing An Assumption, A "C" Class Deal Nightmare"
Multifamily Investing Educator
Episode 9: "Bad Beats"
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Sometimes, no matter how talented, smart, or experienced we are, Lady Luck just isn’t on our side. Welcome back to the Real Estate Nerds Podcast. On today’s Bad Beats episode, our host, real estate attorney Scott Smith, chats with fellow attorney and multi-family investor Charles Dobens about one of Charles’ worst deals. Though the show focuses on a purchase of a C-class property that went wrong, Charles is an extremely successful owner of multiple apartment complexes who regularly advises new investors about multi-family investing. His coaching career has been informed by both his wins and losses. That said, we had Charles dig up the dirt on his all-time worst deal so that you, dear listeners, can learn from what went wrong.
Charles Dobens and the Wild World of Multi-Family Investing
Scott and Charles discuss Charles’ background, real estate debut, and current career as an investing coach. We also get the see some of Charles’ teaching side as he shares some tips and strategies that he advises his students to use.
[2:00] Scott asks Charles about his entrance into the multi-family investing game. Charles was one of those strange children who aspired to enter the insurance business, but also attended law school. At 40, his level of dissatisfaction with his work life drove him to look into multi-family investing. He sold his insurance to fulfill a lifelong dream of becoming an apartment owner.
[3:15] After the market crashed, Charles began representing fellow investors who had suffered from bad deals. This led him to his current coaching career, which involves teaching fellow investors to invest in multi-family units successfully.
[5:18] While he has enjoyed many successes, Charles credits his failure with teaching him to how to evaluate the likelihood of an investment succeeding upfront. He shares a tip with our listeners that he usually reserves for his students: “Owning a multi-family property changes your life. And you have to know if it’s going to change your life for the better, or for the worse.”
[6:00] Charles believes being an owner-operator gave him the motivation to understand numbers. “The thing that really taught me the most about properties was owning them, understanding the numbers, and knowing what it really costs to own a property.” Failure to understand the numbers can tank an otherwise smart investment.
[7:30] Scott gets Charles’ take on partnering with more experienced investor for their first deals. Charles agrees that this strategy is sound and useful for both parties, pointing to many successful ventures he has seen his own students experience.
Charles Dobens’ C-Class Crash
[8:30] Brokers assured Charles that the area his 160-unit complex was located in was gentrifying, and therefore property values would rise. In retrospect, Charles knows this isn’t true and the area may not change for an additional 30 years. He was unfamiliar with the location within Fort Worth and its particular market conditions. But he felt secure in the purchase because the seller had multiple similar properties, some even in the same location. But they key issue with Charles’ property is that it had be purchased as an assumption.
[9:20] Buying as an assumption meant Charles agreed to take on the existing mortgage from the seller. He then negotiated a price of $1.1 million for the complex, and agreed to put 10% down.
[11:00] Scott and Charles appreciate the irony that this looked like an excellent deal. Charles was pleased with his own negotiation skills, and thrilled to pay $100,00 for a coj=mplex valued in the millions. At the time of his purchase, the occupancy rate was 97%. The deal looked beautiful on paper.
[13:40] Charles explains the critical difference between a normal deal and an assumption: “When you’re doing a typical real estate deal there are two parties involved: the buyer and seller But when you’re buying an assumption, there’s a third party–and it’s the bank. They don’t care about the agreement you had with the seller.”
[14:27] Despite having negotiated a great deal and agreeing to a set mortgage amount, the bank demanded more money. The bank required Charles to deposit $200,000 into the bank, or else he would be declined for the mortgage.
[15:30] The inspection terms of Charles’ deal were also unusual and disturbing. He was allowed to inspect the property once, then forbidden to do so again for five months. This detail still irks Charles: “Do you know what can happen to a multi-family property in five months? You can lose the whole thing.”
[17:00] Charles’ property management company later tipped him off to a fraudulent aspect of the deal. When numbers weren’t adding up, He discovered that the occupancy rate was only 50%–half of what he was promised.
[18:14] In retrospect, Charles realizes he should have crafted a better contract that allowed him to return to return to the property and walk the units at any time. He also recommends a clause that states if units are not rent-ready, some money should be returned upon closing.
[19:00] Charles began collecting the evidence of fraud. He made a startling discovery: “What they did was white out the name of somebody else on the lease, and then hand write in somebody else’s name on the lease from another property that the guy owns.” The seller forgot to white out eight of the leases.Charles explains that the trick he fell for is a type of fraud called phantom leases.
[20:37] Charles was never able to get occupancy above 70%. His deal had hidden economic terms, and he now realizes the entire affair was a disaster: “We did everything wrong on this. It was an incredible and expensive learning lesson.”
The Takeaways: Watch the Numbers, Document Everything, and Get Help Evaluating Your Deals
Our host and guest wrap up the show by going over some of the major lessons Charles learned from his experience with fraud and losing big. Charles continues to share some of these bits of wisdom with his students.
[21:00] Because of this bad deal, Charles now is much more vigilant about due diligence: “I don’t believe anything anyone tells me. Everything needs to be documented.”
[22:0] Charles also advises that investors look at the bank statements to see where money is coming from. He explains that “anything ending in three zeros” is a major red flag. If that much money is coming in, it’s probably an owner contribution. Rent deposits aren’t that high, and it’s a sign that the property is performing so poorly that the owner is making up the difference.
[23:00] Scott asks what Charles learned from this deal, and what advice he’d give his younger self to avoid losing on this investment. He gives a series of questions he would ask, and examines his beliefs and assumptions about both the property and its market.
[25:29] Scott agrees, adding: “Challenging assumptions is the number one way we get to high level learning.”
[26:00] Charles had a student looking at an assumption, and how he examined the number.The clause about the assumption was vague, and they made an offer that did not involve assumption and did some digging to determine the real cost of the property. The bank’s reserve replacements would go to the seller, but be collected from the buyer. When making an assumption deal, look out for this detail to avoid owing a hidden additional cost.
[30:00] As both an experienced investor and attorney, Charles advocates for his clients and looks out for new investors. He regularly takes on new investors and guides them through the world of multi-family investing.
Connect with Charles Dobens
Connect with Charles Dobens by visting his website, MultifamilyInvestingAcademy.com. Listeners can take advantage of the volumes of free training and other information available there. To reach Charles directly, email him at Info@MultifamilyInvestingAcademy.com.
Thank you for joining us on today’s episode of the Real Estate Nerds Podcast.
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