Creative real estate investing offers strategies that don’t rely on traditional financing. Owner financing, in particular, is an effective way for investors to grow their portfolios while minimizing risks and hassles. If you’re looking to succeed in real estate using subject-to-deals and wraparound mortgages, it’s essential to understand these techniques inside and out. Here’s everything you need to know to get started.
What Is Owner Financing?
Owner financing occurs when a property buyer makes payments directly to the seller instead of using a bank or mortgage lender. In this arrangement:
- The buyer receives the deed to the property.
- The seller holds the mortgage and collects monthly payments directly from the buyer.
This approach avoids traditional lending hurdles and creates new opportunities for both buyers and sellers. Owner financing can be used in two ways:
- As a buyer: Work out a deal where the seller finances the property for you.
- As a seller: Sell a property you own by offering financing to the buyer.
Key Owner Financing Methods
There are several ways to approach owner financing. Let’s break down the three main strategies you’ll need to know.
Wraparound Mortgages
A wraparound mortgage allows you to profit from the difference in interest rates between your debt and your buyer’s payments.
- You sell a property to an end buyer at a higher interest rate than the rate you’re currently paying.
- The buyer makes payments to you, and you continue to pay your existing mortgage.
Example:
If you owe $600 a month on a 4% loan but charge your buyer $1,000 a month on a 9% loan, you pocket the $400 difference. This method generates steady cash flow with minimal risk.
Subject-To Transactions
Subject-to deals let you take over payments on a seller’s existing mortgage, but the loan stays in their name.
- You become the property owner, while the seller’s name remains on the loan.
- You pay the mortgage on their behalf.
This strategy is incredibly helpful during tough economic times, especially when property values decline, and sellers have little or no equity. Subject-to allows you to acquire homes with no upfront cash while avoiding the headaches of bank approvals.
However, it’s crucial to frame your offer carefully. Never say you’ll “take over payments,” as it implies the seller has no remaining liability. Instead, explain that you’ll “pay on their behalf.”
Free-and-Clear Owner Financing
Free-and-clear financing is the simplest type of owner financing. It involves purchasing a property outright from a seller who doesn’t have an existing mortgage.
Example:
Suppose a seller owns a property worth $80,000 free and clear. Instead of paying $80,000 upfront, you agree to pay them $800 per month for 10 years. This deal eliminates additional lien complications, making it an ideal starting point for beginners.
Understanding Liens and Lien Position
A lien is a legal claim against a property that ensures creditors are paid before the property changes hands. Common types of liens include:
- Mortgages: The most common lien type.
- Mechanic’s liens: For unpaid work done by contractors.
- Federal and property tax liens: For unpaid taxes.
- Child support liens: For unpaid child support obligations.
Why Lien Position Matters
Lien priority determines which creditor gets paid first. The earlier a lien is recorded, the higher its position.
Example Scenario:
- January: The seller mortgages the property with Bank A.
- February: A plumber files a mechanic’s lien.
- March: The seller takes out a HELOC loan.
If the seller defaults, Bank A’s primary mortgage (first lien) gets paid first. Secondary liens, like the mechanic’s lien or HELOC, may be wiped out entirely during foreclosure.
Essential Business Practices
If you’re serious about real estate investing, setting up your business correctly is non-negotiable.
Use an LLC for Transactions
Never put contracts in your personal name. Instead, use a Limited Liability Company (LLC) to protect your assets. Always sign contracts as “Your Name, Member” to maintain corporate protections.
Mixing personal and business funds (commingling) can void the liability protection of your LLC. Keep business and personal expenses separate to avoid legal trouble.
Common Real Estate Acronyms
Understanding industry jargon saves time and confusion. Here are three key terms you’ll hear often:
- ARV (After Repair Value): What a property is worth after renovations.
- LTV (Loan-to-Value): The ratio of a loan amount to the property’s value.
- Basis: Your total investment in a property, including purchase price, rehab costs, and other expenses.
Pros and Cons of Owner Financing
Pros
- No Tenants, Toilets, or Trash: As the “bank,” buyers handle property maintenance.
- Predictable Income: Monthly payments are consistent, with no surprise expenses.
- Accessible for New Investors: There’s a low barrier to entry, with minimal cash needed upfront.
Cons
- Lost Appreciation: Once you sell, future value increases go to the buyer.
- Potential for Foreclosure: If a buyer stops paying, foreclosure costs fall on you.
- Complex Legalities: Compliance with laws like Dodd-Frank requires expert advice.
Why Subject-To Is a Game-Changer
One of the most powerful advantages of subject-to investing is the unlimited potential. Unlike traditional bank loans, there’s no limit on how many properties you can acquire using this method.
By focusing on creative financing, you avoid the barriers that traditional lenders impose. Over time, this strategy can help you build a large, cash-flowing portfolio without tying your name to loans.
Conclusion
Creative financing strategies like subject-to deals and wraparound mortgages are essential tools for any serious real estate investor. They open doors to opportunities traditional methods can’t, offering flexibility, lower costs, and steady returns.
By using these methods, you can scale your business, avoid the hassles of dealing with tenants, and maximize cash flow. The key to success lies in understanding your options, perfecting your negotiation tactics, and protecting your business with the right legal setup.
Are you ready to start making hundreds of thousands with creative real estate strategies? Follow this series, expand your knowledge, and unlock your financial potential. Keep learning, stay consistent, and let your journey to financial freedom begin.
