What is a Novation Agreement in Real Estate?
Pace, what in the world in a novation agreement?
I actually get asked that a lot from my Subto students, usually in response after they’ve come to me with a deal they’re trying to figure out.
Seeing as I talk and teach a lot about using creative financing in real estate, it shouldn’t come as a surprise that a novation agreement is exactly that –
A creative way to fix and flip real estate.
One of my students, Brittany – who by the way, continues to just crush it on deals – had a situation where a novation agreement would work in her favor.
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What is a Novation Agreement?
As mentioned, a novation agreement is essentially a very creative way to fix and flip houses.
Instead of buying a property, you are fixing and flipping the property that someone owns. That sounds crazy, right?
It’s actually a great way to not only protect your profits, but also avoid any disagreements between you and the seller.
This is especially true when you have a seller that is asking too much money for their property.
So how does this work?
Basically, when speaking to a seller, you offer the novation agreement and the terms that both of you want.
Think of novation like a contract that guarantees you the profit from selling the house, as well as receiving payback for the amount spend on renovating their home.
What this does is save us, as fix and flippers, money.
We aren’t spending a lot of money upfront for the purchase, we aren’t, but we still make money as the novation is used to ensure that our profit and renovation costs are paid.
Now that you know what a novation agreement is and how they work, let’s look at the different types of novation agreements.
The 3 Types of Novation Agreements
Novation agreements can be structured to not only suit your own profit desires, but also ensures that the seller is able to make more of their money than if they had just sold their property.
There’re three different ways to do that:
Standard novation agreement
Partnership with seller
A net listing is where you, as an agent, go to the seller and offer to list their property on the MLS.
The seller tells you they want a particular amount for their house and you essentially make a novation agreement that says you will sell their property for that amount.
So for example, let’s say you do a net listing and the seller wants $300,000 for their property. Regardless of whether the price is high or not, that is the price that they want for it.
You would then list the property and find a family that wants to purchase for $400,000. Once sold, you get the payment and then pay the seller the $300,000 they asked for.
You walk away with $100,000, minus any costs associated with the renovation (if you paid for it).
The important thing to note with net listings is that you have to be a real estate agent to do one. And many title companies will understand the term ‘net listing’ vs ‘novation’.
I know what you’re about to ask –
Pace! I’m not a real estate agent!
How do I do a net listing?
Well, luckily, this is where the novation agreement comes in. This is the same as a net listing, however you don’t have to be a real estate agent to do it.
Same scenario – you approach a seller, they want $300,000 for their home, and using the novation agreement, you agree to get them their $300,000 after you sell their home.
Sellers don’t really care how much you make when selling their homes; they want the money they believe their home is worth.
Partnership with the seller
The third type of novation is actually partnering with the seller.
In this scenario, the seller is asking for $300,000; you tell them you think their house might be able to sell for $400,000.
“That’s ridiculous! My house is far more valuable than $400K! It should sell at $450,000!”
I hear this type of thing from sellers all the time, because they’re emotionally invested in their house and believe it’s far more valuable than it truly is.
But with a partnership:
If the house sells for $300K or less, that money goes to the seller.
If the house sells between $300K-$400K, that money goes to you.
If the house sells for over $400K, you both split the money.
These are just the 3 main types of novations, however, even under these main factors, there’re subsections because every seller is different.
If you want to learn more about novation agreements and how to structure them properly, then come and join the Subto Squad!