#creativefinance

Creative Real Estate Investing - Who Knew Creative REI Reply Could Make ...

Start With What You Have (Creative Seed Capital)

Too many people give up on their dreams, mainly because they focus so much on what they don’t have, rather than getting started with what they can create from what they already have (Creative Seed Capital). The only thing that can stop anyone from actualising their dreams is not the lack of money, but the lack of Creative Seed Capital. The concept of money becoming a show-stopper is an illusion…

When it comes to creative finance for real estate investors one of the more popular ways to take possession of a property is by using seller financing.  Using seller financing allows investors more flexibility and removes constraints faced by many investors using traditional financing.

While it’s a broad topic, seller financing is when a property owner extends a loan (mortgage) to a Buyer and secures the loan with the property.  If the Buyer does not pay the loan, the Seller can initiate the foreclosure process.  If this sounds familiar that is because it is very similar to the traditional way of buying property, with the primary difference being there is no bank or other financial institution involved in the transaction.  

When you buy a property, the majority of the time there will be an existing mortgage in place.  Roughly 60% of homeowners have a mortgage on their primary residence.  A Buyer can acquire a property and keep the existing mortgage in place with the use of the “Subject to” clause.  

So what is “Subject to” and how does it come in to play when using Seller financing to acquire a property?  

“Subject to” is shorthand for “Subject to existing financing” and it’s nothing more than a line in the closing document.  What it means is you are buying the property and will keep in place the terms and conditions of the existing loan, without paying it off.  As the Buyer you are in essence taking over payments on the existing loan and taking title to the property.  Importantly, the original loan stays in the Seller’s name.  

Most times during a Real Estate transaction, any existing loan the Seller has is paid off at the time of closing and a new loan is originated by the new Buyer.  In the right circumstances, you can use the “Subject to” clause and keep the original financing in place.  You then originate a new loan for the amount that you agree to pay the Seller above the current balance of the existing mortgage.  

When you acquire a property that has an existing mortgage using Seller Financing the seller is going to extend to you a new mortgage that is subject to the existing loan the seller has in place.  The new mortgage that originates from the Seller to the Buyer is a junior loan that exists in addition to the existing loan.  This is commonly referred to as a “Wrap” or “Wrap around mortgage”.  

If you enter into one of these agreements here are the basics of the transaction: 

Original mortgage loan stays in place and remains in the Seller’s name

Property deed transfers to the Buyer

There is a “Subject to” clause added to the closing statement

Seller extends a new mortgage to the buyer with its own set of terms (rate, payment etc)

This new “Wrap around” mortgage contains existing mortgage terms plus the terms of the new mortgage.

Buyer makes payment on the original mortgage and makes a separate payment to the Seller for the wrap around mortgage payment.

One key point to note here is that the Buyer is never qualifying for a loan with the bank.  Even though the Buyer is making payments, the loan is still in the Seller’s name and they are responsible for the loan.  In this case if the Buyer does not make payments, the Seller will be on the hook with the bank to rectify the situation or else the Seller will face foreclosure.  

As you can imagine, some Sellers would not be comfortable with this.  However, given the right circumstances this can work to a Sellers benefit.  As an example, consider a Seller that is already behind on payments on their loan from the bank.  If the Seller cannot catch up on the payments, having a Buyer that will make up the back payments to bring the loan current is a huge help to the Seller and can help them avoid foreclosure by the bank.  This creates a win-win for the Buyer and Seller as the Buyer wants the property and the Seller needs help financially.