Seller financing arrangement that deserves special attention because of its traps for the unwary is over encumbered property.
Institutional mortgage lenders are closely regulated regarding the amount of money they can loan against the appraised value of the property. Individuals are not regulated. The following example will illustrate the potential problem. Suppose you own a house that is worth, realistically, $100,000, and the mortgage balance is $10,000. A buyer offers to purchase the property with the condition that he be allowed to obtain an $80,000 loan on the property from a lender. The $80,000 is used to pay off the existing $10,000 loan and to pay the broker’s commission, loan fees and closing costs. The remaining $62,000 is split $30,000 to the seller and $32,000 to the buyer. The buyer also gives the seller a note, secured by a second mortgage against the property, for $80,000. The seller may feel good about getting $30,000 in cash and an $80,000 mortgage, for this is more than the property is worth, or so it seems.
But the $80,000 second stands junior to the $80,000 first. That’s $160,000 of debt against a $100,000 property. The buyer might be trying to resell the property for $160,000 or more but the chances of this are slim. More likely the buyer will wind up walking away from the property. This leaves the seller the choice of taking over the payments on the first mortgage or losing the property completely to the holder of the first.
Seller Financing To Investing