Can I do seller financing after refi?

Question

Hi BP family,

I have been wondering; if I have a house and I get refinance with a bank at 80%, can I then sell the house to someone else with seller financing?  In my head the refinance is just a loan with property as collateral so as long as I pay the bank the 80% in the pre-determine amount of time (note) whats stopping me from going to someone else and selling the house with lets say 5% down payment and use the payments from the seller financing to pay the refi.  Is there something legal and very fundamental that I'm missing here?

Marc Winter · Answer

In theory, of course you can.  There are just a few caveats for your proposal:

1.  Due on sale--make sure to structure your wrap-around mortgage in the proper way so as not to trigger a due-on-sale clause that almost all mortgages have.  BTW, this is seldom an issue, but it is in the paperwork.

2.  You are counting on the buyer to make faithful payments to you, so that you can then pay the underlying (your refi) loan.  Do you have enough reserves/income to cover that loan should things go sideways?

3.  If it is a 'straight' sale to the new buyer, you become mortgagee, and will have to foreclose in case of default.  You might consider a land contract or other type of "hold the deed" until stated conditions are met by the buyer.  Even then, you would be facing an ejectment, not just an eviction it the deal goes bad.

4.  Taxes--if the arrangement is that the buyer pays taxes, the property will be subject to tax lien if buyer does not pay.  As mortgagee, you would need to protect your position by bringing any arrears current while you pay to get the buyer out.  Same goes for insurance.

So Jonathan, depending on the price of the property, I personally would not offer a 5% dp -- not enough skin in the game on the buyer's side, too much exposure on seller side, imho.  Perhaps consider a lease with option to buy?

I am a real estate broker/investor, and am not giving legal advice, just speaking from personal experience.

Good luck!

Don Konipol · Answer

@Jonathan Tavarez, there is no way to sell a property on which there is a conventional mortgage and NOT trigger the due on sale clause.  In fact, even leases exceeding three years in length will trigger the clause, as well as contract for deeds, land contracts, etc.

That being said, many properties are sold despite this violation of the mortgage/deed of trust, and very few are accelerated by the lien holder.  Whether this will hold true if interest rate rise significantly remains to be seen.  If interest rate were to rise 3 points of more, then it would appear likely that mortgagees would be more interested in accelerating notes where the due on sale clause has been triggered.

Many people seem to think selling a property with a mortgage is illegal, or at least something that can not be done.  First, it is in no way illegal to sell your property with a mortgage - it may be a violation of the terms of the mortgage - but it is not illegal.  Illegal is a reference to a criminal matter, the violation of a mortgage clause - absence of fraud - is a civil matter.

Problems with this type of transaction occur in four areas

1- If the lien holder decides to enforce the clause and accelerate the note.

2- If the buyer stops paying the seller, and the seller has to make payments out of pocket and due to foreclosure laws, bankruptcy laws, delaying tactics, etc., is unable to gain control of the subject property for a long time - in some particularly unfriendly creditor states 8 years is not unheard of!

3- If the seller stops making payments although still collecting from the buyer

4- If said sale is a residential property subject to the Frank Dodd Act, the jurisdiction of the Consumer Finance Protection Bureau, and or state laws dealing with (a) homesteads and (b) contract for deeds

Although some safe guards can be memorialized in legal documents, the chances for problems are numerous and varied.

The risks of ruining your credit or getting sued are significant.  For someone whose business is these types of transactions, they would hopefully have the knowledge to enter only those transaction that have a good chance of succeeding, have the resources to be able to und out of pocket those that 'went south', and have the contacts with professionals who can help them contain the damage in a timely manner.  IMO, the risks are too high for someone who justs wants to do one or two of these transactions as a 'side' investment/business.

Bob Malecki · Answer

Yes that's called  wrap around mortgage. Google is your friend.......

John-David Herlihy · Answer

I haven’t done this, so take this for what it is worth...

You could consider offering a seller-financed second mortgage for 15%-20%. This way the buyer gets conventional financing for the first 80%. You then hold the remainder as a second position note. The buyer may have to do some searching for mortgage company that will underwrite the first with a seller-financed second for essentially the down payment.

I think this may be a better solution and keeps your credit and money safer should something go sideways with the buyer.

Marc Winter · Answer

@Jonathan Tavarez,

You are correct--that is a question best suited and answered by a tax attorney and/or CPA.

Jonathan Tavarez · Answer

Thank you all for the info and new terms, will definitely consult google.

Jonathan Tavarez · Answer

Many thanks for all the info @Marc Winter

I will be talking to my lawyer and CPA to put all the details together but one last question regarding Taxes,  if I bought the house less than one year ago, will part of the transaction be considered as capital gains (ex. down payment from buyer)?

Can I do seller financing after refi?

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