Reasons Sellers Carry-Back Mortgages
When interest rates are high or credit guidelines are tightened, buyers ask sellers to act in place of the bank and carry the financing for them. If the home is free and clear without any existing loans, the seller might carry all the financing or the buyer might get a conventional fixed-rate loan for part of the purchase price and ask the seller to finance the balance.
If there is an existing loan secured to the home, sellers might let buyers take over the existing loan payments, although the loan will remain in the seller's name. The difference between the sales price, minus the down payment and the existing loan is the equity the seller would carry as a loan.
Sellers agree to carry part or all of the financing for a variety of reasons, some of which are:
- It's a soft or down real estate market. Owner-carried financing will attract a greater pool of buyers.
- The buyers cannot qualify for a conventional loan.
- The seller is facing capital gains on the sale of the property and can defer that portion which is financed.
- The financing gives the seller a better rate of return than a money market account.
- Sellers sometimes want a monthly income.
- The property is non conforming and no lender will loan on it.
- Often sellers can receive a higher sales price in exchange for offering owner financing.
Drawbacks of Seller Carry-Back Mortgages
- The buyer might default on the payments, causing the seller to initiate foreclosure proceedings.
- After foreclosure, making up back payments to the existing lender, if there is an existing loan, paying closings costs and real estate commissions, the seller might not be left with any equity.
- Sellers who carry back mortgages have tied up cash by securing it to the property.
Converting the Seller Carry-Back Into Cash
There is a large pool of private investors in the marketplace who regularly buy seller carry-back instruments. However, they do not pay face value. Investors look at the yield they will receive over the term of the investment, and this yield can be increased if the investor pays less than the outstanding balance due.
The discounts vary across the board, but sellers can expect to lose 10 to 30 percent of the unpaid balance, depending on the following:
- Seasoning. This means how long the seller has been receiving payments on the carry-back financing. A seller who has received timely payments over a 12-month period will receive more cash than a seller holding a brand new mortgage.
- Interest rate. The higher the interest rate, the lower the discount. A lower interest rate will attract investors who want a higher discount.
- Mortgage term. Long-term mortgages such as a 30-year mortgage are not as attractive to an investor as a short-term mortgage; therefore, long-term mortgages are typically sold at higher discounts than short-term.
- Prepayment penalties and late charges. Carry-back mortgages that contain a prepayment penalty and a late charge are also more attractive to investors, which affects the discount rate applied.
- Loan-to-Value Ratio. Lower loan-to-value ratios receive more favorable discounts. Higher ratios are considered greater risk and the discounts are steeper.
Investors also consider the type of security, its appraised value, location, amenities, condition and the credit-worthiness, if known, of the buyers.
Selling Fees For a Carry-back Mortgage
The investor may ask the seller of a carry-back mortgage to pick up all costs associated with the sale of the note and mortgage. You might be asked to pay such fees as:
- Title Policy.
- Escrow Fee.
- Document Preparation.
- Beneficiary Statement.
- Courier / Wire Transfers.
- Commission, if any.
Finding Investors to Buy Carry-Back Mortgages
There are private investors and commercial investors. Some are represented by mortgage brokers, some are not:
- Subscribe to investment newsletters.
- Search the Internet.
- Look in your local newspaper's classified ads.
- Call real estate agents who deal in investment properties.
- Let your fingers do the walking in the Yellow Pages.
- Ask friends and family members.
At the time of writing, Elizabeth Weintraub, DRE # 00697006, is a Broker-Associate at Lyon Real Estate in Sacramento, California.