Subject to Real Estate: A Clever Financing Alternative Solution for New Investors
Sometimes investors may not have a 25% down payment to put on a real estate investment property. However, using a subject-to real estate investing strategy can help fund their new real estate deal.
What is a Subject to Real Estate?
A “Subject to” real estate purchase means buying a home where a real estate investor takes on the title to a specific property, but the current loan is going to remain in the name of the person selling it.
Another way to say this is that the process is “Subject to” the current real estate financing in place. And, although the existing loan stays in the seller’s name, the buyer continues making payments to the existing loan balance while owning the property.
It’s common for real estate investors to use this method of buying a property subject-to the seller’s existing loan when there isn’t much cash or credit available to the investor.
Types of Subject to Mortgages
If you’re looking to become a serious investor, you must learn more about the three most common types of mortgages used for this type of investment opportunity. This process can eliminate additional funds directed towards closing costs, broker commissions, origination fees, etc.
Wrap-Around Subject To
This type of mortgage allows the seller to override the interest thanks to the amount of money they anticipate making on the amount currently part of the mortgage balance.
If the seller’s existing mortgage balance has a separate interest rate of 5 percent, the buyer could put down $20,000 on a $200,000 existing loan. Thus, the seller would have the ability to carry back $180,000.
Seller Carryback
Seller carryback is also known as owner financing. It is a straight subject to mortgage that comes with seller carryback, and it can take on the form of a second mortgage. You can also use this mortgage option for a land contract or lease.
To give you an example of how a seller carryback would work, imagine that you have a $200,000 purchase agreement in place with an existing loan balance of $150,000. The buyer would put down 20 percent at the point of signing, and the seller would follow through with the remaining balance of $30,000 using a fixed interest rate.
Cash-to-Loan
Cash-to-loan is the most commonly used subject to mortgage type where the buyer will pay the difference between the purchase price and the existing balance of the loan.
For example, if you have a loan balance leftover of $100,000 with an agreed sales price of $200,000, the buyer will pay the sales price and the difference between the loan balance.
When to Offer Subject to Offers
Motivated sellers are currently dealing with financial issues, which could mean they are already in the foreclosure process or behind on more than one mortgage payment. This situation is a good candidate for a subject-to purchase.
Approaching the homeowner should be done professionally, communicating that you are interested in purchasing their property using this type of offer.
Then, as the seller, they can avoid foreclosure. But, unfortunately, foreclosure can be a very devastating event when it comes to a person’s credit history.
The buyer takes on the payments, which they will pay on time each month. This process positively affects the person’s credit score, and the buyer will continue to pay the mortgage.
As a result, the buyer doesn’t need any additional financing, and there won’t be the need for other closing costs, origination fees, or attorney fees.
Does a Subject-to-Mortgage Require a Lender’s Permission?
The lender needs no permission to complete a subject-to agreement. The buyer will make payments to the seller’s mortgage company, but no agreement is officially put into place by any parties involved.
The buyer has no legal obligation to continue making the payments. If the buyer doesn’t pay the payments, the foreclosure process can go into effect. The mortgage would still be in the name of the original mortgagee.
Due-on-Sale Clause
When you have a loan generated to buy a home, a lender will include a “due on sale” clause in the agreement. This clause is an essential feature of the loan if the homeowner wants to sell their home at some point without having to pay off the loan in full.
The lender can now call the loan due and payable. The homeowner will transfer to the title of the home without having to pay off the loan.
Loan Assumption vs. Subject-to-Mortgage
Both a loan assumption and a subject-to mortgage agreement involve the sale of a property without paying off the existing mortgage. In the case of an assumption, the buyer agrees to become responsible if a lender determines the mortgage is in default.
When dealing with a subject-to situation, the seller will still be primarily accountable for the note and the mortgage.
Loan Assumption
An assumption of a mortgage involves acquiring the title to a property that still has an existing mortgage on it. The buyer that makes a loan assumption will then be liable for all of the terms and conditions for the mortgage, which includes the payments that are left. The person that was the original mortgagor is still listed and liable on the note if the grantee were to default on the payments.
Both the buyer and the seller need to sign the deed. Additionally, the seller has the right to ask for a higher price for the property due to the risk they’re taking with remaining responsible.
Subject-To-Mortgage
The grantee taking title to the property is a subject-to situation not liable to the mortgagee. However, if the mortgagor defaults on their payments, the grantee could lose the property in foreclosure.
How to Prepare a Subject-to-Mortgage
The seller must provide a copy of the current mortgage terms when preparing a subject to mortgage. The seller should include these terms. The wording of real estate agreements should resemble the following:
“The offer price of $xxx,xxx is subject to the payoff of $xxx,xxx with payments existing at $xxx per month, including interest and principal. The current interest rate is x%, for the term of xx months. After that time is up, the buyer will obtain financing and pay off the existing balance. The buyer also agrees to pay the seller the down payment amount of $xx,xxx.“
Subject to Mortgage: Pros & Cons
Buyers
Pro
If you’re going through the proper steps, the buyer can achieve the ability to build equity and make a profit. The buyer also doesn’t have to commit to any large down payment that would lower the cost of the monthly payment amount.
There’s no credit needed to start this process, so this makes an investment more realistic. You also aren’t tying up your ability to secure a separate mortgage of your own.
Con
A subject to real estate agreement is final. You hope that everything will go as planned, but things can always change within the real estate market. You have a responsibility to the seller to pay the monthly loan amount, whether it’s comfortable for you or not.
There is also the potential that the lender could call loan due. You would be required to pay the loan in full within the next 30 days. Also, a new insurance policy will be necessary, and it must be in your name.
Sellers
Pro
It can be highly stressful to be in a difficult financial situation where you can’t find the money to pay for your current mortgage loan. Utilizing a subject to contract can make your life a lot easier, as long as you can find someone to work with that you can trust and seems experienced in this type of agreement.
Con
As a seller, you are putting a lot of faith in the buyer. They are now responsible for making your payments, but you have to rely on them to do so. Otherwise, you could still be in a problematic situation that negatively affects your credit score and financial stability.
Final Thoughts
Buying subject-to real estate is an alternative for investors to fund their real estate deals. Although they have the option to seek help from private money lenders, investors can take advantage of the seller’s existing financing.
The buyer makes the agreed mortgage payment using the seller’s existing interest rate on the mortgage loan. In addition, present interest rates could be relatively high. Thus, a new buyer can significantly benefit from buying a home subject-to using a seller’s existing financing.
However, investors should seek professional advice or hire a real estate attorney to help with this real estate transaction. And with any real estate deal, investors should always do their due diligence and ask questions when buying a house to be confident their subject-to property is a good idea.
