Home sellers can finance their low-rate mortgage and generate income

A wraparound mortgage can yield 2% of the loan balance in addition to the home sales profit.

By JEFF LAZERSON | jlazerson@mortgagegrader.com | MortgageGrader.com | April 24, 2023

Article originally posted in Orange County Register on April 20, 2023.

Contemplating selling your home? Are you out of your mind?

How could you possibly find a replacement property, given the minuscule inventory of available homes for sale?

And then there are those super-low property tax rates, thanks to Proposition 13. How much higher property taxes can you realistically afford (compared with what you have now) before you will choke on the added tax expense — assuming you buy up?

Think of the 30-year fixed rate mortgage of 2.5% you landed in 2020 or 2021. Gosh, today’s rates are at least 6.25% — way more than double the rate you lassoed back in the day.

Does leveraging your lifetime low 2.5% mortgage rate (or whatever rate you have) by charging say 5.5% to a homebuyer sweeten the seller pot for you?

To be clear, you are not tying up your equity. You are just rearranging and extending the mortgage note you took out while marking up the interest rate.

For example, let’s say you sell your home for $750,000 to Mr. and Mrs. Buyer. You have an existing 2.5%, $600,000 trust deed (California’s technical definition of a mortgage note). Buyers come in with $150,000 down. You extend the $600,000, 2.5% fixed rate via a legal document named an all-inclusive trust deed or AITD (also known as a wraparound mortgage).

The buyer pays you. You pay the mortgage loan servicer at the 2.5% rate from the monthly mortgage billing statement you continue to receive. You pocket the difference.

We’re talking $1,500 income per month or roughly $18,000 per year, assuming a 3% rate spread between your existing note and your buyer upcharge. That’s in addition to whatever your home sale profit is.

Note: As the principal balance declines with each monthly payment, the monthly earned interest will decline as well. Assuming the note stays in place along with timely buyer payments, you have a handsome income stream.

And, to put a cherry on top, you are still delivering at a much cheaper rate than your buyer can find through banks, mortgage bankers and mortgage brokers.

Fullerton-based real estate attorney Jim Stearman schooled me in the nuances of all-inclusive deeds of trust. In a nutshell, below is a condensed version of some points he shared:

—Hire an experienced real estate attorney to create the AITD.

—The home is being sold subject to the existing mortgage lien staying on the property.

—Record the sale with the county recorder’s office so the buyer legally owns the property. Purchase title insurance. Have the buyer pay for homeowners’ insurance.

—The seller makes payments to the mortgage servicer.

—If the buyer defaults, the seller can only foreclose on the property’s equity (this is the key difference between the AITD and a traditional mortgage lien). The seller cannot foreclose on the underlying note.

—If the buyer defaults and the seller doesn’t make the mortgage payment to the underlying lender, the lender could report late mortgage payments to the credit bureaus which could affect the seller’s credit.

—If the underlying mortgage servicer discovers the AITD, the servicer could call the mortgage due. This is called a “due on sale” clause (within the note and the deed of trust).

—Burden and risk fall on the buyer should the mortgage servicer call the note. That means the buyer would have to obtain another type of financing.

—Buyer could have good or bad credit. Buyers with poor credit may need some sort of seller financing (AITD or seller carryback note) because they can’t obtain institutional financing.

Stearman said he has seen more unsuccessful AITD outcomes than successful outcomes for all concerned in the 44 years he’s been practicing law.

The typical term of an AITD is 3-5 years, according to Stearman. The language for each deal typically is “customized for that transaction according to the needs and wants of the parties.”

If you are contemplating this as a seller, I would find a very sharp attorney to draw up the agreement. And I would ask the buyer for permission to have a mortgage loan originator run credit in order to qualify the buyer based upon current commercial rates.

I also would ask a trusted loan originator to take the application and go through the pre-approval process including a pre-approval letter. This won’t guarantee everything goes perfectly, but it should provide some assurance the buyer is likely to get a new mortgage if the mortgage servicer comes back to bite you.

Freddie Mac rate news: The 30-year fixed rate averaged 6.39%, 12 basis points higher than last week. The 15-year fixed rate averaged 5.76%, 22 basis points higher than last week.

The Mortgage Bankers Association reported an 8.8% mortgage application decrease from last week.

Bottom line: Assuming a borrower gets the average 30-year fixed rate on a conforming $726,200 loan, last year’s payment was $591 less than this week’s payment of $4,538.

What I see: Locally, well-qualified borrowers can get the following fixed-rate mortgages with one point: A 30-year FHA at 5.625%, a 15-year conventional at 5.5%, a 30-year conventional at 6%, a 15-year conventional high balance at 6.25% ($726,201 to $1,089,300), a 30-year high balance conventional at 6.5% and a jumbo 30-year fixed at 6.25%.

Note: The 30-year FHA conforming loan is limited to loans of $644,000 in the Inland Empire and $726,200 in LA and Orange counties.

Eye catcher loan program of the week: A 30-year conforming fixed rate at 5.625% with 2 points cost.

Jeff Lazerson is a mortgage broker. He can be reached at 949-334-2424 or jlazerson@mortgagegrader.com. His website is www.mortgagegrader.com.

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* Specific loan program availability and requirements may vary. Please get in touch with your mortgage advisor for more information.