My Preferred Seller Financing Method

Avoiding federal regulations when seller financing.

This is denise evans with butler evans real estate education division our website is you can reach me at denise at butler this material is copyright protected all rights are reserved you have asked for my preferred seller financing method and this video is in response to that this video is primarily targeted to

Alabama investors and the reason for that is other states have specific statutes that say if there is some sort of a disguised mortgage some various types of seller financing transactions that they will be treated as if the seller gave the buyer a deed and took back a mortgage so all the same rules as a regular deed and mortgage or regular deed and deed of trust

If that’s what real property security instruments are called in your state why would you want to sell real estate and hold the financing there’s several reasons one is uh rather than getting a chunk of money and having to invest it in treasuries at virtually no interest you would prefer that your money work for you at a higher rate of interest which is why you’re

Holding the financing you um may not want a chunk of money uh for especially for older people they do not want a large sum of cash for two reasons one is they’re afraid the children are going to weedle it out of them if it’s just sitting in the bank account and secondly if they sell an asset all the money goes in the bank and doesn’t really do them any good the

Error is inherited eventually but cash flow is different and so regular monthly payments coming in make a significant difference to their quality of life you might also be able to sell a property for a higher sales price if you’re willing to sell the financing because it will not appraise at that high of price and a bank will not loan as much as needs to be loaned

For you to sell for cash and then finally buyers often need um for you to hold the financing because they have um credit issues they’re not able to borrow the money from the bank and so these are high risk borrowers and you need to remember that when you’re struggling when you’re structuring the transaction there’s several different methods of selling property

And holding the financing one is a deed and a mortgage or a deed and a deed of trust depending on what state you’re in and this is just the traditional way everybody buys real estate and puts a mortgage or a deed of trust on the property another one is a vendor’s lien deed that’s where the seller transfers title to the buyer but retains a lien in an instrument

Called a vendor’s lien deed in alabama at least those usually say that if there’s a default the seller can foreclose on the property on the courthouse steps but that is technically not true because the only reason lenders in alabama are able to sell on the courthouse steps without going through a judicial proceeding like they do in florida judicial foreclosure is

Because in alabama if the borrower gives a mortgage to the lender the borrower technically deeds the property to the lender subject to the borrower’s equity of redemption in other words the right of the borrower to get the title back once the mortgage has been paid in full and so it’s not necessary for there to be a transfer of title because the lender already

Has the title all that’s necessary is to foreclose the equity of redemption the same reasoning applies in deed of trust states the property is dated to the trustee who is then obligated to deed it back to the borrower once the loan has been paid in full but if the borrower defaults the trustee will foreclose the redemption rights the right to pay the loan off

And get the property back and then deed it to the lender with a vendor’s lien deed the seller has only a lien and the buyer borrower has um has title to the property so in order for the seller to get the property back after a default the seller is going to have to go through a judicial foreclosure now i know some of you listening to this video watching this video

Say that’s not how we’ve ever done it but if you talk to to um title company lawyers they will tell you that’s what it needs to be done that’s the way it needs to be done because that’s the only way to get title out of the buyer and back into the seller there’s an instrument called a bond for title people still use that word today but there’s not really any more

Bonds for title in a bond for title the seller retained title to the real estate the buyer had a right to have title transferred to it after it made all the payments but it was a little bit nervous like what happened if the irs slapped a lien against the seller and grabbed the property what happened if the seller changed its mind and so sellers would get a bond

That said if they failed to transfer the property to the buyer when it was time then that was a default and the bonding company would pay off to the buyer so those are no longer done have not been done for almost 100 years but people still use that word to describe that phrase to describe a transaction where the seller retains title and the buyer does not get title

Until after all the payment’s been made in full a contract for deed also sometimes called a land sale contract is which can apply to more than just land says simply that title will stay in the seller and when the buyer has paid in full title will be transferred to the buyer via a deed there is a lease purchase agreement where the buyer makes monthly payments

And some portion of the payment is for leasing the property and some portion of the payment is for equity reduction and at the end of the agreed-upon time usually the buyer needs to go out and get financing and pay off the seller that’s how those usually work and then my preferred one is a straight up lease with a purchase option and once i go through some of the

Issues i’ll describe to you why that one is my favorite just a pure and simple lease with an option in the lease to buy the property by a certain date for a specific sum of money but no amount of the monthly payments reduces the principal balance in other words it does not reduce the purchase price for the property well here we are my personal favorite is the

Lease with a purchase option there are no federal regulation problems you are not a lender you are simply a landlord and in your lease there is an option to buy the property for an agreed-upon sum at some future point now some of you are saying well i’m not a lender anyway under federal law because i’m just a little guy and all those federal laws apply to the big

Guys no no no you could do as few as three seller transactions per 12 month period and be subject to federal regulations the same as regions bank bank of america city wells fargo all the rest of them if you get in a fight with a lease with a purchase option you get in a fight with a a tenant who has defaulted no court is going to rule that the buyer has built

Up some equity in the property and should be protected that could be a bankruptcy court that could be a court of general jurisdiction a circuit court because it was never contemplated that the buyer would build up any equity the purchase price remained the purchase price no matter how many lease payments the the the tenant paid there’s no foreclosure process and

Those delays like you have with a deed and a mortgage or a deed and a deed of trust easy termination and eviction rather than ejectment so if the tenant defaults you got the fast seven day time limit eviction process in district court you’re not in circuit court where everything takes at least 30 days for each step of the way and often much longer because that’s

An ejectment action now yes i know some of you have contracts for deed or things that you call bond for title that says if the the buyer defaults the relationship is automatically changed to a landlord-tenant relationship and you think that protects you and you get to do an eviction but some courts are ruling that is not the case and that you’re going to have to go

To circuit court on those situations now here’s the cool thing a lot of you like to do those financed real estate transactions where you retain the title because you want the buyer to pay like five thousand dollars down two thousand dollars down ten thousand whatever it is you want that upfront money and even if they default you get to keep the money and so people

I talk to say denise i don’t want to do a lease with the purchase money or with a purchase option because i like that five thousand dollars up front well guess what you can still get that five thousand dollars up front under alabama law an option contract has to have consideration so if we’ve got a purchase and sale contract i promise to sell and you promise to

Buy that’s a promise for a promise each of us has given consideration in an option contract i promise to sell but you do not promise to buy so what have you given me you have to give me something else and the law says you being willing to sign a lease with me is enough that that is enough to satisfy the consideration requirement but you know in actuality i can

Charge you and so i can charge you five thousand dollars as the purchase price of the option and it’s not credited against the purchase price ultimately of the property it’s mine i get to keep it no matter what and it does not reduce the purchase price for the property do not make the mistake of writing into your agreements that it reduces the purchase price

Of the property because if there is a fight the court is going to rule that that was earnest money the option payment has to be fully earned as of the date it’s paid you can tie default in the lease to loss of the option your lease can say if tenant is ever more than three days late making the monthly rent payment then in addition to any other consequences the

Option is automatically terminated and null and void and for any other kind of default like a behavior default um if the tenant does not cure it within a certain number of days um then the option is null and void and terminator so it gives you a lot of control over the relationship by having control over whether that option is terminated or not another cool thing

About that option payment is under irs regulations if you give me five thousand dollars today to pay for an option to buy my property at some point in the future whether that’s an option in connection with your lease or just an option you know just a general option to option my property if you give me five thousand dollars today to purchase that option that

Five thousand dollars is legally invisible to the irs on the day you exercise the option that five thousand dollars receives the same treatment as the sales proceeds for the property so if the sales proceeds of the property are long-term capital gains then that five thousand dollars will be long-term capital gains if the option is terminated by me because you

Did something wrong or if it expires under its own terms and you don’t exercise it then on that date whatever calendar year that is then the five thousand dollars has to be taken into income in that calendar year as ordinary income and that gives me a lot of control suppose your option expired on november 30th and you came to me and you said denise i can’t close

By november 30th you know i haven’t even heard back from a bank and i’m thinking gosh i don’t want another 5 000 of income in this year and i say how about if i extend your option for 40 days and you say i’m not seeing where that’s going to help me denise and i say well work with me maybe something will happen i’ll go ahead and extend it for 40 days and you say

Okay now we’re in the next calendar year and when you’re when the option has expired and the 40 days goes by and i say hey too bad about that you were right you weren’t able to get to get get it together the option has now expired now that 5 000 is in the next calendar year not this calendar year so that gives you a lot of control over timing of when you take

Money into income there are some drawbacks to retained ownership methods the owner must comply with municipal and hoa requirements regarding the exterior you get a letter from the municipality saying clean it up or else you better clean it up or else because you still own the property and then the landlord also has certain responsibilities to the tenants as far

As habitability as far as repairing things to break the tenant can waive that in lease agreement but they have to be listed specifically it can’t just say tenant waves landlords responsibility to repair anything so make sure you’ve got a good lease form if you’re doing the lease with the purchase option and then finally just one more thought about leases with

Purchase options if the property would normally rent for fifteen hundred dollars a month but you’re leasing it to this other person for let’s say seventeen hundred dollars a month the question is is that tenant building up two hundred dollars a month in equity in the property and the answer is no because they have bad credit typically and while the market for that

Property might be fifteen hundred dollars a month for people with good credit it’s seventeen hundred dollars a month for people with bad credit so you can charge above market rental rates and not get caught in some judge ruling that what you really had was a disguised financing transaction and the tenant is building up equity in the property for more information

We have a full-length video on seller financing strategies important contract language and state and federal regulations you can navigate and avoid some of that has to do with the alabama safe act that sets limits on how many transactions per 12-month period you can do without having to have a licensed mortgage loan originator involved in the transaction some

Of them have to do with dodd-frank regulations and if and how much due diligence you’re going to have to do to see if the the buyer can actually afford the payments um whether you can have a balloon or not if you do over a certain number of transactions a year your seller financing has to be fully amortizing with no balloons of course if you do a lease with a

Purchase option you avoid all of those issues but lots of other considerations to think about when you’re structuring your relationship included with the video is an easy to follow flow chart that provides exemption rules for dodd-frank and compliance requirements based on the volume of seller finance transactions per 12 months go to

Click on the distressed property tab and then on the course title

Transcribed from video
My Preferred Seller Financing Method By Denise Evans