Unlocking Real Estate Deals with Creative Financing: Second Liens Explained

When it comes to competitive real estate markets, you need every tool available to outbid others while still turning a profit. In Episode 26 of Grant Teach Me Something, Grant Kemp and Ryan Harper break down how to use creative financing strategies—including second liens—to make offers no one else can match. This technique allows investors to “pay more” on paper while ensuring long-term profitability. Let’s walk through the steps, calculations, and strategies necessary to master this skill.

Why Pay More For a House?

At first glance, paying full price—or even above 85% of the property’s value—might sound like a mistake. As investors, we’re often conditioned to look only for heavy discounts to ensure our returns. However, creative financing flips that logic on its head. By structuring the debt creatively, you can pay more for a house than your competitors while still meeting your cash flow goals.

Here’s the real win: by offering terms that solve your seller’s unique problems (like receiving monthly payments instead of a lump sum), you expand your pool of potential deals and beat cash buyers.

This strategy revolves around understanding your expenses, finalizing your play money (the budget for debt payments), and structuring deals that work for everyone involved.

Step 1: Start With the End in Mind

Before making any offer, begin by determining your exit strategy. Will you rent the property, sell it with owner financing, or flip it? Your exit strategy defines the financial framework for the rest of the deal. For example, let’s assume you’re selling the property with owner financing.

In this scenario:

• The target property rents for $1,050/month.
• Your goal is to leave a minimum profit margin of $150/month after all expenses.

With this information, you can work backward to decide what offer you can make the seller.

Step 2: Understand Expenses

Every real estate deal comes with non-negotiable costs. Subtract these expenses from your projected income to calculate how much you can afford to pay toward total debt (your “play money”).

Using the $1,050/month rent example:

1. Property Taxes: Let’s estimate $150/month.
2. Insurance: For owner-financed properties, calculate 1.5% of the financed amount annually. (A $90,000 loan would result in $1,350/year or $112.50/month.)
3. Minimum Cash Flow: Allow at least $150/month to meet your profit goals.

Formula:
$1,050 (rent) – $150 (taxes) – $112.50 (insurance) – $150 (cash flow) = $637.50

This $637.50 represents your monthly play money. This amount covers all debt payments, including amounts owed to lenders or sellers.

Step 3: Breaking Down Known and Unknown Variables

To structure a creative deal, separate your variables into what you know (“knowns”) and what you need to calculate (“unknowns”). For example:

• Knowns:
  
  • Purchase price: $85,000.
  • Monthly play money: $637.
  • Interest rate and loan term can be negotiated with the seller.
• Unknowns:
  
  • Loan duration.
  • Final monthly payment breakdowns (if paying multiple liens).

Using financial tools like the 10bii calculator app, you can input known data to solve for unknowns. For example, offering the seller $85,000 at 4.5% interest calculates to $637/month for around 15.5 years.

Step 4: A Real Example with a Free-and-Clear Property

Imagine a seller owns their house outright and wants $85,000. Here’s how you structure the deal:

1. Offer Terms: Propose $85,000 with monthly payments of $637 (your play money). Set the interest rate at 4.5%.
2. Outcome: Using a financial calculator, you determine the loan term is approximately 15.5 years.
3. Total Cost: Over the loan duration, you’ll pay the seller $118,000, including interest.

This benefits both parties. The seller gets significantly more than their asking price over time, and you lock in a deal that cash flows $150/month for the first 15 years. Once the loan is paid off, your monthly cash flow jumps to $787.

Step 5: Sub-To with a Second Lien

Next, let’s look at a scenario where the seller still owes $50,000 on their mortgage. They’re asking $85,000, leaving $35,000 in equity to negotiate.

1. Step One: Take over the seller’s existing $50,000 loan “subject-to” its terms. For simplicity, assume this loan has a 4.25% rate and 22 years remaining, resulting in a $292/month payment.
2. Step Two: Offer a second lien to pay off the remaining $35,000 in equity. For example: structure the $35,000 at 4.5% interest and $343/month using your remaining play money. This note lasts roughly 10.5 years.

Cash Flow Reminder:
You’re still cash flow positive at $150/month after servicing both debts:
$637 (total play money) – $292 (existing mortgage) – $343 (second lien) = $150.

Step 6: Getting Creative When Sellers Want Money Upfront

What if the seller needs $10,000 cash at closing to seal the deal? No problem. With owner-financing deals, you’ll receive a down payment when selling the property. Here’s how to structure it:

1. Sale Example: Sell the property for $100,000 with 10% down ($10,000).
2. Apply the Funds: Use that $10,000 down payment as the seller’s requested upfront cash.
3. Adjust Terms: Reduce the second lien to $25,000 at $343/month.

This approach removes the need to bring money out of pocket while still meeting the seller’s demands.

Step 7: Adding Another Layer—Third Liens

If the seller wants $10,000 upfront, but you’d prefer to keep that cash, there’s another option: secure private capital.

1. Private Money: Borrow $10,000 from an outside lender or investor at, say, 10% interest over 5 years.
2. Create a Third Lien: Assign this $10,000 as a third lien on the property and include it in your monthly debt calculations.

This setup may require slightly longer repayment terms or renegotiation with the seller, but it showcases just how flexible these deals can be.

Why This Works

Creative financing gives you a competitive edge. Cash buyers are limited by their discounts, but you can pay full asking price—or more—by structuring the debt intelligently. For sellers, your offer often becomes the most attractive because:

• They receive more money over time (with interest).
• They sell their house faster than waiting for cash buyers.
• Flexible terms solve unique problems (like needing cash upfront).

Takeaways for Investors

To succeed with second liens and creative financing:

• Master the Numbers: Use tools like the 10bii app to calculate payments, interest, and terms.
• Practice Listening: Sellers have unique pain points—structure deals that offer specific solutions.
• Don’t Assume: Never say “no” for the seller. Always present your offers.
• Iterate Your Offers: Adjust terms based on objections, such as adding cash upfront or offering shorter loan terms with zero interest.

This method opens doors to deals others can’t touch and builds long-term wealth through consistent cash flow. Ready to try it out? Start running the numbers on your next potential deal.