Wrap Around Mortgage Success

[Don Konipol]

We just sold a retail/service center we owned utilizing a wrap around mortgage. We bought the place 4 years ago for about $1.3 million with a $650000 new first, 15 year at 4% fixed (btw, no personal guarantee on the loan because 50% LTV/LTC). We closed on the sale of the property Thursday at a sale price of $1.7 million with $412,000 down and a 2 year balloon note (with options to extend) for $1,288,000 at 9.999% interest with interest only monthly payments. Amazingly, the bank holding the underlying note AGREED to allow the wrap as long as our LLC remained on the note, with NO change in interest rate or terms!. So, for as long as the note we hold doesn't pay off, we collect $10,722 monthly interest and pay out $4,100 on the underlying note - of which prox $2,000 is interest with the balance principal reduction (since our note is interest only this represents note equity buildup).
Interestingly, the best offer we had for the property paying us all cash (with the buyer obtaining new financing) was $1.55 million.  Had we accepted that offer, (and assuming the buyer could perform), we would have netted $935,000 cash.  By providing wrap around financing we netted $412,000 cash plus equity of $673,000 in the “wrap”. If the wrap were to pay off tomorrow, we would have a total of $1,085,000 vs the $935,000 on a cash sale.  
‘But it gets real interesting the longer the new buyer doesn’t pay off the wrap (assuming) he continues making the monthly payments.  Each monthly payment nets us $6622 in cash plus $2100 in note equity.  That’s $104,664 annually (actually increasing each month since the payments to us are all interest but the amount of principal we are paying off on the underlying note is increasing with each payment), on an “investment” of $523,000 (which is calculated as the amount of additional cash we would have received by accepting the all cash offer).  So we are earning 20% annually on this “opportunity cost” cash.  
in terms of actual cash invested, it gets a little complicated.  The subject property was purchased in a 4 way transaction, in which my partner and I purchased both the subject property and a warehouse type property that was “behind” the subject - from two different sellers.  The warehouse property was resold to a 4th party shortly thereafter, and we received cash enough to reduce our total remaining cash investment to $450,000.  What’s also interesting about this situation is that we purchased the property March 1, 2020, and within 5 months lost 4 of the 6 tenants during Covid shut down!  We ended up putting $180,000 additional into the property to cover operating expenses, which we were able to reimburse ourselves through the warehouse property sale and operating profit since 2023.  On balance, over the 4 years of ownership the property was break even after debt service. So selling for a capital gain salvages what would have been a disappointing experience.