Wholesaler? Partly Manure!

Something About This Stinks.

As a board certified real estate attorney, I often am contacted by distressed homeowners who have fallen prey to some less than desirable real estate practices, particularly wholesaling. These homeowners, often desperate for a quick sale due to any number of reasons, but commonly due to financial hardship, become easy targets for wholesalers who somehow have the innate ability to sniff the desperation, allowing them to prey on the homeowner’s vulnerability.

What is Real Estate Wholesaling?

Real estate wholesaling involves a “buyer” entering into a purchase contract with a seller, not with the intent to actually purchase the property, but rather to resell the contract to a third-party buyer for a profit. This practice, while technically legal, often exploits sellers who may not fully understand the implications.

Why Do Wholesalers Do It?

Wholesalers are motivated by a combination of factors, but generally speaking:

Quick Profits: Wholesaling offers the potential for quick profits with minimal work and minimal financial investment. That sounds amazing, right? From the wholesaler’s perspective, it is.
Circumventing Real Estate Licensing: By structuring deals as contract assignments, rather than as connecting buyers or sellers, wholesalers can avoid broker licensing requirements.
Tax Avoidance: Wholesalers may attempt to minimize their tax liability by structuring deals in ways that reduce taxable income or avoid certain taxes or tax reporting.

You may be thinking, why would a seller care what exposure a wholesaler takes on, but the reality of this is that sellers are just along for the ride. Factor in that wholesalers often target sellers who are facing financial hardship or are desperate to sell quickly, and it’s easy to see why people should be aware of this issue.

Why is Wholesaling a Problem?

The fundamental issue with wholesaling from a seller’s perspective lies in the misalignment of interests between the seller and the wholesaler. Whereas the seller’s primary goal is to sell their property (hopefully quickly and profitably), the wholesaler’s focus is not on acquiring the property from the seller, but on getting the property under contract. Once under contract to “purchase” the property from the seller, the wholesaler shifts their focus to finding a buyer to assign the contract to, for a price, of course. Stated another way, the wholesaler signs a contract to purchase real property with zero intention of actually purchasing the real property. This difference in the respective motivations can lead to a number of problems for the seller.

Delayed Closings and Failed Deals

Time Extension Tactics: Wholesalers may request extensions on inspection periods, often under the guise of due diligence, to buy more time to find a buyer. Sellers, who are just so relieved to have a signed contract, will often agree to these extensions, not wanting to have to start over. But…
Contract Cancellations: If the wholesaler is ultimately unable to secure a buyer, they may cancel the contract, leaving the seller without a deal and without a buyer, having to start over from step one.

Reduced Profit Potential

Lower Purchase Offers: To maximize their profit margins, wholesalers may offer lower purchase prices compared to traditional buyers, limiting the seller’s potential earnings.

Potential Tax Implications

Tax Avoidance Strategies: The structure of a wholesaler’s arrangement may have unintended tax consequences for the seller. A consultation with a tax professional should be sought, adding to the cost for the seller.

Title Cloud Issues

Recorded Documents: Wholesalers often record documents in the public records to secure their interest in the property. If they fail to release these documents upon contract cancellation, it can create a cloud on the title, making it difficult for the seller to sell the property to another buyer. In severe cases, this may require legal action to clear the title.

How Sellers Can Protect Themselves.

Red Flags to Watch Out For.

To protect yourself from wholesalers, be on the lookout for these red flags:

Extremely Low Earnest Money Deposit: A low earnest money deposit may indicate the wholesaler’s lack of commitment to the deal. I recently saw a wholesaler’s offer to a client of mine in which the proposed escrow deposit amounted to just 0.2% of the purchase price. And I rounded up to get to that!
Assignment Clause with Release of Liability: This clause may absolve the wholesaler of responsibility if the deal falls through, leaving the seller vulnerable. In the FAR/BAR Contract look to Paragraph 7.
Unusual Contract Terms: Be wary of contracts with provisions requiring you (the seller) to continue to market the property, or that requires you to show the property to third parties.
Pressure Tactics: Wholesalers may use high-pressure tactics to persuade sellers to sign contracts quickly.
Lack of Transparency: Wholesalers may be secretive about their intentions and avoid providing clear information about the process.
Ability to Record the Contract: Wholesalers will typically want to record documents to tie up the property. Their contracts typically have clauses by which sellers agree that the “buyer” may record a “Memorandum of Contract” or a “Notice of Interest” in the public records.

Things to Do.

To avoid becoming an innocent bystander of the wholesaling process, consider the following:

Consult with a Real Estate Professional: A licensed real estate agent can provide expert advice and help you navigate the selling process.
Consult with a Real Estate Lawyer: A real estate attorney will be able to review the contract in its totality, to advise you on the interplay of the various clauses, terms and conditions of the contract, especially the contingencies.
Understand the Wholesaler’s Role: Ask the “buyer” to clarify their intentions and whether or not they plan to buy your property, or if they are simply going to try to find their own buyer.

Don’t Be a Mark.

Remember, a true buyer is committed to purchasing your property, not simply flipping a contract. Wholesalers’ tactics add unnecessary stress and delay to transactions that shouldn’t have either. And, as they say, “time is money.” But, more importantly, “time is time” (coined it?) and don’t let wholesalers be reckless with yours, for the sake of their own profit. Be cautious and informed when dealing with wholesalers, and protect your interests by working with reputable professionals.