Creative finance is a critical tool for all agents in navigating market instability and ultimately getting paid to close the transaction. Would you rather learn it all for yourself, or get paid for knowing an expert?
Creative financing for real estate refers to uncommon or unique ways an individual can purchase land or properties that are for sale. A homebuyer or investor would typically use one or more creative financing methods when they want to use as little of their own money as possible.
Creative financing for investors peaked in the late 1970s when interest rates were as high as 18 percent. Because it was more difficult to qualify for a loan, the need for creative financing was born. Here we are in 2023 and creative financing is back BIGGER than ever, and as an agent, your gonna need to learn how to apply creative financing in order to get your transaction closed.
Hi, I'm Mark Van Dyke and I help realtors turn trash into cash. Do you have a "Transaction" with one of the following issues? If you do, please contact me at (602) 820-5478 so I can help you get your commission paid ASAP!
The following is not an exhaustive list, but are the most common creative finance strategies.
"Subto" or Subject to
In a typical subject-to-transaction, the buyer allows one or more mortgages to stay in place and agrees to make those payments on behalf of the seller. The parties acknowledge the due-on-sale clause and sign the additional paperwork at closing to ensure that the deal not only closes but that it's smooth and successful for years to come.
The property transfers to the buyer, but the mortgage stays in the name of the seller and on the seller's credit report.
Did you know every transaction is some form of subto? Consider all the rights-of-way, water rights, utility easements, etc... every property is ultimately bought subject to those encumbrances.
But isn't subto illegal? Is it illegal to sell a property subject to the mortgage?
No. Technically it's a default of the mortgage contract. That means the lender has the option to call the loan due on sale (extremely rare), and if the borrower cures the default, the lender must continue/reinstate the mortgage. We have multiple strategies for handling a due-on-sale, and it doesn't scare us a bit.
Seller Finance / Seller Carry
Sellers either want or have to finance their equity to their buyer, and a promissory note and mortgage are created for the debt. This can be combined with subto, making it a hybrid wherein the seller's equity is secured as a 2nd position lien for the Buyer.
Wraps are a form of seller finance one or more underlying liens are rolled into a single, all-inclusive note and mortgage which has its own interest rate. The underlying liens are listed in the documents and are paid on schedule, and what's left after the other payments go to the seller/investor as profit.
Novation (“Agreement to rehab and sell” - similar to Net Listing)
It's all in the name: Agreement to Rehab and Sell.
The buyer brings funds and labor, fixes up the property without buying it, and then sells the property. Typically, the buyer makes all mortgage payments from the contract until the closing (30-180 days). The seller usually gets paid a flat dollar amount and/or a percentage of the sales price.
This strategy significantly reduces expenses to flippers who would otherwise have to borrow funds for the purchase as well as the rehab.
Common Creative Financing Questions
Here are some common questions on subject-to, and seller finance transactions and how we approach them.
"Subject-To" is a way of purchasing real estate where the buyer takes title to the property, but the existing loan stays in the name of the seller. In other words, "Subject-To" the existing financing. The buyer now controls the property and makes the mortgage payments on the seller's existing mortgage.
Seller financing is a way of purchasing real estate where the seller becomes the bank and provides the loan or "mortgage". The buyer takes title to the property and makes the payments to the seller.
We can combine both into a hybrid deal where we take over the existing mortgage and then seller-finance the remaining equity the seller may have.
Q1. How will I know the mortgage payment will get paid on time?
A1. We set up a third-party servicing company to withdraw money from our account and make direct payments to the parties involved. For a subject-to, this would be a payment to the bank for the mortgage and then a payment for their equity. Setting up a third-party servicer also shows proof that payments are being made by the buyer when the seller goes to wipe out their Debt-To-Income on this property.
Q2. What happens if you miss a payment?
A2. We would use a Deed in Lieu pre-signed and held at the servicing company. The house is effectively transferred back into the seller's name if the buyer defaults over a 30-day period. The seller in this situation would inherit the property back and benefit from any and all loan pay-down payments, improvements made to the property, and appreciation that the property has seen. The seller could then sell the property again for even more money if they didn’t want to keep it.
Q3. Who is responsible if there are repairs or maintenance needed on the property?
A3. The seller would NOT be responsible for any repairs or maintenance on the property after the deed is transferred. The person responsible for any repairs or maintenance would be whoever is on the deed of the property. Since the seller’s name would only remain on the mortgage and the deed would change into the buyer's name, then the buyer would be responsible for all of the repairs and maintenance.
Q4. How are utilities and insurance handled?
A4. We will have our insurance agent replace your current policy with our policy with the sellers added as additional insured. So not only are we on the insurance policy but you will be on the insurance as well. We would swap the utilities into our name.
Q5. Won’t this affect my Debt-To-Income to buy another property?
A5. For Conventional and FHA loans, we can use a payment statement from the servicing company to show a lender that the loan is being serviced by someone else. After 12 months, 100% of the mortgage is removed from the DTI.
If you have a VA loan, the amount you can purchase on your next home would depend on how much entitlement you have remaining. If you didn't have enough entitlement for your next property, then you can use your proceeds from the "Subject-To" sale towards the down payment needed for your next home.
Q6. How does "Subject-To" affect my credit?
A6. Since the loan is left in the seller's name, when the on-time payments are made, the seller's credit score is beneficially affected. The on-time payments to the lender get reported back to the credit bureau and can significantly help someone who is looking to improve their credit score and can save the seller more money down the road to get their credit repaired.
Q7. What happens if the Due-On-Sale Clause is called?
Agents, if you have a deal where the seller would consider one of these Creative Financing methods, please give me a call and my team and I can help you get an accepted offer using creative financing and get you paid... In the end, that's what we as agents are trying to accomplish right?
If you have a client who needs to consider Creative Financing to sell a property, Please call Mark Van Dyke at (602) 820-5478.
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