What happens if... (subject-to question)

Question

Helllooo BP,

Hypothetical question.. If I were to purchase a property "subject-to" from a motivated seller and 6 months down the line the original owner wants to purchase another property that he/she will be occupying; how difficult would it be for the seller to qualify for a new 2nd loan on a new home being that they still have a first mortgage attached to their name? I imagine that the debt to income ratio would effect the seller greatly when trying to qualify. Is getting a 2nd bank loan impossible? If not what would need to be provided to the potential lender to allow them to get the 2nd loan? Do you primarily only do subject to deals on NOO properties since it isn't their primary residence?

If any light can be shed on this that would be awesome!

Augie Byllott · Answer

There are a couple of possible solutions to the issue of a sub 2 seller looking to purchase another home with a traditional mortgage. First, I always recommend they wait a year because it allows you to establish a payment track record. Next, it is important to remember that the current norm is for a lender to consider 75% of rent as income thereby lessening the impact on their DTI but in the case of a sub 2 some lenders take 100% of the payment being made against the mortgage, thereby mitigating any potential impact on the DTI. They have documentation they can share with their prospective lender such as the HUD as well as your mortgage statement showing that the payments are being made by a party other than them. Different lenders will view the situation in different ways so they should expect to speak with either a mortgage broker who works with multiple lenders or they cn approach nore than one lender to get a handle on their particular underwriting perspective . It is always a delicate conversation and should be handled in an honest and forthright manner. Usually a seller sell a property subject to because it i giving them a benefit they couldn't otherwise receive (i.e. quick sale or not suffering the impact of no or negative equity). Last but not least we recommend they do not go back to their former lender so as to not invite any potential "due on sale" issues. Hope this helps!

Alex Peau · Answer

@Jon Holdman Precisely! Thank you for clearing that up. I was worried that I didn't ask the question properly for a sec. Bill Gulley exactly the type of information i was looking for, thanks everyone for shedding light on that. Also curious as to the question that @Mike G. asked..

Jon Holdman · Answer

Bill Gulley isn't talking about borrowing against the house that was sold. Rather, he's asking about the seller buying another house and if it will be difficult to get a new loan against the new house because of the old house still being on their credit report.

Bill Gulley · Answer

Wayne, I'd think you're speaking of an assumption contract which is not a good way to go. If you have a 50k underlying mortgage on a 100 k property/sale with 25k down, how do you account for the financing of the remaining 25k without a note? It's done by a "wrap" loan that covers the entire amount due at 75k in this example. This is how Sub-2s are traditionally done. A contract providing for the assumption is a poor approach, a guru method saying the buyer can walk away, not really as any agreement to pay an amount for someone carries the same liability, it's messier but it's still an obligation. Mike G. made a very good point as to servicing, I almost mentioned it but my post was getting long. Augie touched on the considerations of lenders. We serviced installment contracts, had them in 7 states, it makes a huge difference to institutional lenders in assessing the "value" of an installment contract (seller financed note) if there is third party professional servicing. Consider that there are servicing requirements today for any obligation secured by residential property, lenders are aware of the requirements. Having Joe Blow seller in a DIY deal is now nothing short of scary, it is not a tenant/landlord relationship. As a lender I would be much more likely counting income on a new or even seasoned note that is or has been under the collection of professionals. :)

Mike G. · Answer

@Augie Byllott , do you recommend the use of a loan servicing company when making payments on a house purchased subject to the existing loan? Also, you say that the seller can use your mortgage statement to show that payments are being made by a party other than them. But what mortgage statement do you as the buyer have if the loan remains in the name of the seller? Isn't the seller still getting the mortgage statement? Or do you tell the bank to send mortgage statements to you now?

Wayne Brooks · Answer

Bill, I believe the typical sub2 deal is structured Without any note being signed by the buyer, so there is no "off setting" note. This is one of the main reasons I believe a lot of guys like the sub2, because they can just walk away if something goes sideways, and have no liability for the underlying loan.

Bill Gulley · Answer

@Jon Holdman , @Alex Peau Dagnabit, sorry, I did misunderstand Alex. Ellis caught the question! This is a grey area. Not saying Ellis is wrong as lenders can go on either side on this issue. I believe Ellis is a loan officer at a bank if memory serves, I may be wrong there, so they may have that policy. If the loan is counted, the new note created to the seller should be counted on the income side to some extent if not entirely included. Some lenders will look at the sale much like a lease and use 75% of the contract income to offset the old mortgage, reason being is that the note or contract is newly created and there is no seasoning to show the new buyer's ability to pay as agreed. In my experience, usually the old mortgage is a contingent liability, we did not count it against the seller in the ratios. To avoid doing so we showed the HUD-1, contract and note. I've done this many, many times as we originated installment contracts, sub-2 and contract for deeds for a seller and then originated the seller's loan into the secondary market. This was through a brokerage operation selling the notes to secondary wholesale lenders. I did direct loans as well and I wasn't concerned with it as we would be servicing the contract and the loan. I suggest you tell the seller that some lenders may treat the contract differently in qualifying for a new mortgage and to inquire with more than one lender . You might suggest too that they contact a broker as they generally have more leeway in selecting funding sources. There are some underwriting issues that sway with the wind, I have not originated since the bubble and I have not investigated this particular issue, but just from the prudent lending area, the income from the contract should be considered to offset the underlying mortgage. Last tip, if your are doing these as the buyer, you might prepare a "loan package" of sorts on yourself. A brief resume, business experience if you have it, a financial statement or something showing your ability to cover the debt or a statement of rents. Have a cover letter telling the next lender to contact you concerning the contract sale if they desire and that you will assist them as needed. I'd stress the business plan in using the contracts for an expected short period of time, to sell or refinance the property. It can be shown that it is a good business financing method rather than saying or letting them think "hey, I'm broke, have bad credit and I'm flaky". Paint a professional picture they can rely on. Underwriters love documentation! :)

Ellis San Jose · Answer

@Alex Peau On a sub-2, their debt ratio will be affected, because the loan is still under their name even though they are not on title. The seller's overall financial picture will greatly influence their ability to qualify for owner occupied traditional bank financing on their next home. This is a very frank conversation you must have with the seller so that they know exactly what the ramifications could be. If you are planning on flipping the property then the sub2 loan gets paid off anyway. The longer you hold the property & the underlying loan stays open, the more risk there is for things to happen (lender calling loan, borrower BK, etc) I buy sub2 on both NOO & Owner Occupied.

Bill Gulley · Answer

With a sub to, the seller provides a special warranty deed and carries back the equity and may wrap th existing loan. Any title search will show the conveyance so the seller is not in title and any lender will not loan on the property. :)

Alex Peau · Answer

Would you be able to clarify a little bit more on that @Bill Gulley