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January 26th, 2009 by Temple City Tribune
I am constantly amazed at how questions come to me. Just a couple of weeks ago, a reader from Pasadena wrote questioning, this subject, and within a couple days another call was received from one of my clients, soon followed by another call from a real estate agent.
If you think that selling a home is tough today, think how it was just 30 years ago when interest rates were between sixteen and eighteen percent. Yes, prices were about twice what they are today, but not so was the average persons income. Things were really tough then, and one of the best ways of selling a home was the “Subject To” process. A seller would allow a buyer to take the property “Subject To” the existing loan of record.
A buyer would come in with a down payment to the existing loan, and at the same time take over the buyers existing interest rate, which could have been as low as nine-percent. The bank or lender would allow the transaction to proceed without any further credit checks on the buyers. Of course, the seller was not off the line, and could be held responsible but I don’t recall that happening very often. It was a good deal for everyone. It was Glendale Federal Savings and Loan that was able to get the law changed to eliminate the program, and “Subject to” program was gone forever.
What took over were “Wraps”. A wrap is when a seller allows a buyer to assume the current loan without taking the steps of informing the lender or even getting approved to assume the loan. The buyer may not come in with a good down payment or any down payment at all, and the seller may be carrying a second. The seller wants out of the property and proceeds to go along with the transaction, no matter what the risks may be.
So far it may sound like a good thing for everyone, but there are many pitfalls and I most certainly would never suggest that either party ever consider such a transaction. Here are some the problems that a buyer and seller may encounter when proceeding with this type of purchase agreement.
Just about all lenders have a clause in their agreement’s that states should the property change hands the loan then becomes due and payable. This is called a “Due on Sale Clause”, and is in every loan agreement. Many, if not all, lenders have arrangements with title companies that would report property title transfers, and will immediately take steps to call the loan. If the buyer came in with any down payment, they could lose that money with no options of recovering any of the funds given to the seller. The seller may be required to either pay-off the existing loan, or try to obtain a new loan or possibly even lose the property.
There is a benefit to the seller as the seller could still claim the tax deduction on their income tax. Should the buyer do the same thing, well that is not really acceptable to the IRS, and may cause a red flag that everyone would want to avoid.
When a seller is in such a need to proceed with a “wrap” sales transaction, it is very possible that the seller could have other financial problems. That could lead to the seller going into bankruptcy. Now the buyer may have no method of recovering any the funds given to the seller, and the buyers must vacate the property. The buyer has no recourse with the lender. The lender may not be willing to negotiate a loan for the buyers without them coming in with a full down payment as well as qualifying for the loan.
If the buyer declares bankruptcy, and was responsible for making the mortgage payments to the lender, the sellers credit would be greatly affected. Should the seller be in a position to save the property from going into foreclosure, then the seller has the problem of evicting the person that is now occupying the property? That is not an easy task, and would be costly and time consuming.
Even with all of the problems that both a buyer and seller would be facing when proceeding with the “wrap”, many still take the gamble. The call received from the real estate agent asked what would his responsibility be if he had put together such a transaction. He could be in a great deal of trouble if he had not properly explained what could happen, and did not do so in writing, and then have it signed by both the buyers and sellers. Without that disclosure, either the buyer or seller, possibly both, could have problems and could take legal action against the agent and the agency where he/she may be associated.
There have been cases where a buyer is able to talk a seller into proceeding with a “Wrap”, then rents the property and never makes any payment to either the lender or to the seller. Of course this is fraud, and if the people were ever caught there would be no recovery of any funds. The tenant has a problem, as does the seller who has to clean up the mess with the lender and then proceed to evict the tenant.
My question to those who have written and called is, “What do you think of “Wraps” now”?
Louis Perlin CRS, GRI is a Syndicated writer and author. Lou is also a Professional Real Estate Witness and Mediator. Lou can be reached at Marilyn Perlin Realtors, Inc. at (760) 327-8401 or by e-mail: email@example.com.