Thinking of Selling? - AVOID SUBJECT TO

[Alan Asriants]

I have a lot of clients that ask me for creative ways to purchase property. The two big ones that always come up are seller financing and subject to. 

Out of the two, subject to is definitely the more risky approach for sellers. 

How does subject to work?

In short, subject to is a method of purchasing a property that is subject to the buyer making the Seller's mortgage payments. The buyer transfers the property over to their name but keeps the mortgage in the name of the seller, continues to make the payments, takes on full responsibility of the property, all repairs, maintenance, etc.. 

The catch is that if the buyer fails to make payments, then the property automatically goes back to the seller. 

There are a lot of details that can be worked into this contract, and I wouldn't recommend going into an agreement without first talking to your real estate agent or a real estate lawyer. The intrinsic complications of a contract should be overlooked by a professional. 

In some cases, I see that the buyer offers a substantially high price on the property to entice the seller, but that price is offered as a balloon payment in 5, 10, or 15 years. The sales price is contingent on the property appraising for the agreed-upon value in that given timeframe.

The goal of subject to, for the buyer is to take advantage of your low interest rate, maximize profits to pocket as much cash flow as possible, and then, however, in many years be able to cash out refinance and pay your mortgage off in a lump sum to acquire full rights of the property. The other goal for the Buyer is to put as little money down to the Seller as possible. In fact, I see many cases where sellers are offered subject to deals with no money down. This is the biggest red flag for sellers.

Well, this sounds great for Buyers. It can be extremely unethical to Sellers. 

Here are some reasons why you should AVOID subject to as a Seller:

1. The Buyer has no skin in the game

If someone is approaching you to buy your house without a mortgage or conventional financing and are tying you into a long-term contract they better have some sort of collateral that they're putting up. When a buyer gets a mortgage for a property with low money down the bank does an intensive underwriting process to make sure that Buyers qualified to make those payments. Only once they have verified absolutely everything do they give out the mortgage. And in this case they give the money upfront to the Seller and rid them of their responsibilities forever. Here, someone is trying to "Buy" your house with nothing to you, and you just have to trust them to make payments and take care of the house. 

If a bank goes through an intensive process, you should be going through an even more intense process if they have no money to show. Handing over your keys and responsibility of a home to someone who brought nothing to the table is super risky and if it falls through, it will be your responsibility again, and you won't have anything to cover yourself with. If you're even considering this (which I do not), you should ask for an extremely high upfront payment (40% or more IMO). This gives you more cushion and puts the Buyer into a more responsible position. 

Its easier to walk away from a problem when you have $1000 into it vs $150,000

2. The property is still your responsibility

Buyers will claim to sellers that they no longer have any responsibilities and that the seller doesn't have to worry about paying the mortgage fixing the property or taking care of expenses. While this is true it is not true when the buyer stops paying the mortgage or decides to walk away from the property. 

I had a client of mine that was reached out to one of these buyers who was planning on taking his property, converting it into a boarding room situation, which was illegal and renting it out that way to maximize his returns. His plan involved reframing some of the building and inhabiting illegal tenants. If they went through the transaction and sometime in the future, the buyer decided to walk away or to stop making those payments. All of that responsibility would fall back on to the seller. The seller would be stuck with an illegal living situation, possibly dealing with the city to avoid lawsuits, and they have to put the property back into its original condition on their own dime. This is not even considering any damage that could be done to the property during the ownership of the buyer. 

If you're ever considering subject to, I would ask and I would verify the buyer of their credentials as a real estate investor. Maybe they do everything by the book but they never address the roof leak and they decide to walk away from the property now that roof leak is your responsibility again.

3. Buyers offering overinflated purchase prices to lure sellers

A  big way that Buyers convince sellers of getting into these kinds of agreements is offering them prices that they can't even imagine. The catch is that this price that they will give them will only be available to the seller in a certain amount of time. Sometimes that's 5, 10 or 15 years. The other catch is that the property must appraise for that value. 

I don't know about you, but I have no idea what the prices of property will be like in the future. No one can predict how much they will go up, and this simple clause helps protect the buyer and gives them a reason to get out of the contract. So if you wanna get into this kind of agreement, make sure that it is not contingent on the property appraising in the future. Again I am strongly against these agreements in general

Best of luck to all the sellers and buyers out there!