Buying Property Subject To
Taking over a property “Subject To” an existing loan is not as hard as it may seem as long as you know what it is.
If you know what it is and how to explain it to the seller, and what steps to use to protect the loan from being called, you can buy many more properties faster than you can if you have to go get new loans on each purchase.
Here is how . . .
When financing a property, the note says I owe x amount of money and the Deed of Trust or Mortgage says, “here is how the lender proceeds to take over the collateral or sell it if I don’t pay the note as agreed upon.” Generally, the person borrowing the money is personally liable on the loan. This means that if the collateral that backs the note, once sold, is not enough to cover the debt, the borrower must make up the difference from their other resources.
Traditionally, if you don’t get a new loan when you buy a property, you will take over ownership and “assume and agree to pay the loan as was agreed upon.”
However, for many years now, lenders have had a “due on sale” clause in their collateral agreements. This means that anytime the original homeowner sells or transfers any interest in the property to someone else, the lien holder may (but does not have to) require full payment of the loan now rather than continue to accept payments.
In the early years of the “due on sale” clause, the current interest rates were much higher than the rates on old loans, so lenders had a good reason to call the loans due where the “due on sale” had been violated. Now that interest rates have reached historic lows and interest rates are still low, lenders in general have not been filing “due on sale” cases at all. And, as a rule, unless something out of the ordinary happens, the lender never notices that a transfer has occurred. If you don’t make the payments, they will notice. If you cause them a lot of paper work, they will notice.
Taking a property “subject to” existing mortgage means that you get the deed but you do not assume the loan. The loan stays in the original homeowners name, but you now control the property and make the mortgage payments on it. If you don’t make the payments, you could lose the property and any equity in it. However, if you don’t make the payments and you lose the property, there will be no personal liability beyond the loss of the property.
Typically homeowners who are behind on payments, in foreclosure or have no equity in the home are the most common types of motivated sellers you will be dealing with and perfect for buying “subject to”. Even though these types of motivated sellers will agree to almost anything, it’s a good idea to explain what you are doing, how it works and how they can benefit from it. They will benefit because you will be making their payments on time so it will help their credit. If they are concerned about what you are doing, you can explain to them that the risk of losing the equity is enough to keep you from missing payments or you can use a clause where you agree to pay off the sellers loans within a certain amount of time.
If they still are unsure, you could have some sort of an intermediate collect and disburse the payments. An intermediate would be a loan servicing company or trust company that can do this for you. Another idea is to have the seller open a savings account at the Savings & Loan that is carrying the loan, and you make the payment into that account and set that account up for auto pay of the loan. This way, the seller can check the account and see that the payment was made and paid out.
The idea has the added advantage of the S & L still seeing a payment come from whoever they were accustomed to seeing it come from.
The biggest problem comes with insurance. You must have insurance. And the homeowner’s policy is only good for 30 days after the transfer. So, for starters, call or write the insurance company that has the existing policy, and ask them to add you to the policy. If you do this, remember to follow up in two weeks and change the policy to a “renters” policy rather than a homeowner’s policy. Or, get a new homeowners policy in both your and the seller’s name. Or just leave the original policy and go get a second policy. But now you have two insurance payments.
Yet another approach when dealing with insurance on subject to deals is to use a land trust. A land trust holds title to real property and is commonly used by homeowners for tax purposes and estate planning. The homeowner would be the beneficiary and you would be the trustee who carries out orders and controls the property. Then you would write a letter to the lender explaining the change and all correspondence be directed to the trustee who then changes the policy. To protect your interest in the property, beneficial interest would also be assigned over to you.
There is a chance, as interest rates climb in future years, that lenders will be more interested in who is making the payments. But the sure way to catch their attention is to get behind on payments. So those of you who are using “subject to” as a tool, make sure you do everything else by the book and on time.