CREATIVE FINANCING OVERVIEW

In 2008 it became difficult to get financing. In the last few years, lending standards have been relaxed, but it is still harder to get financing than it was before 2008. The FHA loan is sometimes the best and only option for those with less than perfect credit and less than huge income.

A possible solution is not to get new financing at all, instead to get the seller to carry a balance.

If the seller owns the property free and clear, the process is a lot easier. 

If the seller owes a balance to an existing lender, that financing is called and assumption or wrap-around.

You can do a lease-option or a lease with commitment to purchase, which are almost always unrecorded. You could do a deed of trust back to the seller, which may be a wrap-around deed of trust transaction, and these are generally recorded but they do not have to be recorded.

I must stop here and say that anyone buying or selling creatively should consult with legal counsel. It is not for everyone.

Bear in mind that you must comply with Dodd Frank restrictions on seller financing. These restrictions apply whether the deal is a recorded wrap-around deal or an unrecorded lease option deal. To be on the safe side, consult with an attorney who has studied Dodd Frank and a mortgage broker.

Read this excellent summary of Dood Frank restrictions as they apply to seller financing.

in 1980, when interest rates were the highest ever. Vietnam War deficit financing had pumped up the economy. Nixon had taken the country off the gold standard in 1971. The price of oil had gone through the roof. There was inflation at 13.5% per year and recession at the same time. It was called “stagflation.” Paul Volker took a sledge hammer to the economy, raising interest rates to the point where Jimmy Carter lost the election and home mortgage rates were in the teens.

People wanted to sell their homes, but buyers either could not qualify for mortgages at such high interest rates or were not willing to do so. Millions of sellers had old 3%, 4%, and 5% mortgages, and inventive real estate agents and lawyers figured out ways for buyers to assume sellers’ mortgages formally or informally. In some cases the mortgages had due-on-sale clauses in Paragraph 17 (renumbered today to Paragraph 18). A due-on-sale clause says that if the seller sells the property the bank can call the loan due. However, many state cases around the country held that due-on-sale clauses were void as restraints on alienation because they were practical impediments to resale.

I went into partnership with a Seattle attorney in 1980, and we were very busy rewriting and closing seller-financing transactions. Title companies and escrow companies were unwilling to close the transactions, and so we escrowed them ourselves.

Assume a $100,000 property (typical price back then) with a $60,000 deed of trust against it and a buyer with $30,000 in cash. The buyer would pay $30,000 down and give the seller an all-inclusive, wrap-around deed of trust for $70,000 that wrapped around and included the underlying $60,000 deed of trust. The buyer would make payments to the seller, and the seller would make payments to the lender. There would be a cash out in five years. Often we set up a collection account to handle the money, hold the original note and reconveyance, and give the seller notice if the buyer was not paying on time. Sometimes we got consent from the lenders. Sometimes we did not even ask for consent.

Then in 1984 Congress federalized the law of due-on-sale and preempted all state cases and statutes on the subject. Banks could enforce their Paragraph 17 or 18 due-on-sale clauses and call loans due if there was a change in ownership. The bank had to give 30 days notice, and if the balance was not paid in full or the property was not deeded back to the seller, then the bank could conduct a foreclosure, a process that typically takes six or seven months. In the agreements we wrote, the buyer and seller agreed what they would do if the lender called in the loan.

There were exceptions to the new rule: The bank could not call in the loan if a parent deeded to a child, or a spouse deeded to a spouse, or if a borrower put title into the name of a trust and there was no change in possession. 

How does this relate to the present? Although interest rates are relatively low, it is still difficult for borrowers to get financing. That difficulty has had a significant impact on the current stagnation in sales and the drop in property values.

Maybe it is time for buyers and sellers to rebel. My experience is that lenders do not want to take properties back and will consent to wrap-around sales, provided that the seller is not released from liability. The banks have too many properties in their portfolios and mortgage insurance companies are being stretched financially.

I am ready and willing to set up and close wrap-around deed of trust transactions. The method I use is this: I either get the lender to agree to waive enforcement of the due-on-sale clause, or I get buyer and seller to acknowledge there is a risk, and I define the risk. I get the buyer to agree that if the lender calls the loan due, that the buyer will either refinance or resell the property.

What kind of buyer would be a likely candidate for a wrap-around sale? If I can get the lender to consent to the wrap-around, then any buyer would be a likely candidate.

If I cannot get a response from the lender or if the lender refuses to give consent, then the buyer candidate would be an investor or a person who could tolerate a certain level of risk, perhaps a person with sufficient assets who could refinance or re-sell the property if necessary. Every transaction would be handled differently.

If the parties have some concern about the bank possibly foreclosing, the deal can be structured on a lease-option basis.

Bank regulators should require banks to allow buyers to take over sellers’ existing mortgages in order to spur home sales. Due-on-sale clauses should be disregarded and assumptions and wrap-around sales should be allowed until the housing and mortgage markets return to normal. Click here to read the letter I wrote President Obama regarding this issue.

Until such change is made, buyers and sellers can be creative and “go around” due-on-sale clauses.

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James Robert Deal, Broker and Attorney
Broker with Agency One Realty LLC
WSBA # 8103, DOL # 39666
425-774-6611, 888-999-2022
James at James Deal dot com