"Subject To" Real Estate Deals Explained
By Charles Hopkins
Published 04/21/2006 | Real Estate
"Subject To" real estate financing is fairly new on the real estate investing scene, mainly because many investors don't know what it is.
"Subject To" financing actually can be a win-win situation for both the seller and the buyer/investor if both parties understand their obligations to one another. The seller usually gets to sell his/her property at the asking price which was originally sought, and the buyer/investor usually gets the property with very little money down, if any, while not having to qualify for any bank loans.
We know, that traditional real estate investing is mainly about buying low and selling high, and making a profit from that difference, usually over time. There's absolutely no secret to that. While doing it this way, of course, you would incur all the paperwork and everything else that goes along with buying and selling a home like paying all the transaction fees that are involved like commissions, closing costs, title, recording fees and of course your time. On an average, the whole process usually takes a month and a half up to six months depending on the situation.
Creative financing, or "other than" traditional and/or conventional real estate investing, is basically working out an agreement that is fair both the seller and the buyer, without using banks or mortgage brokers. By incorporating this type of financing, the sellers can sell their property for the price they want, and in a timely fashion. The buyer/investor can create an environment for him/her to profit in some manner over a period of time.
By leaving out the usual suspects like title companies, real estate agents and loan officers, both parties stand to make the transaction more profitable for the buyer/investor and more cost effective for the sellers. Specifically this can be real profitable for the real estate investor because in any type of investing, and especially in real estate, it's about leverage. The leverage is what makes creative financing a powerful, profit-making tool for those looking to start a real estate investing business. The leverage is usually represented by how much money you put into a certain investment, and how much you make from that amount over time. "Subject To" deals make your leverage extremely high, since most of the time you place a small amount of cash, for usually a much lager return.
Let's go over a sample situation which would create an ideal environment for a "Subject To" agreement.
Debbie and Joe Blume bought their house five years ago for a 100,000 dollars. After 5 years, they now owe about 95,000 dollars, while their house is appraised for 160,000 dollars. Both Debbie and Joe have accumulated a credit card debt of about 20,000 dollars since that time, and of course, the interest on that debt is much larger than they really care to have.
Joe and Debbie take out a second mortgage to pay off their credit card debt, take a vacation and buy a new car. With their second mortgage, they do all those things and have about 10,000 leftover, after everything is done. After 7 short months, most of that 10,000 is gone also.
Shortly after this, Joe receives an offer within his company for a higher paying position, but in a different State. Joe and Debbie talk it over, and decide to take the offer and move out of State. Of course, deciding to do that, they must now sell their beautiful home.
Like so many of us, when we look to sell our house, we think logically and talk to a real estate agent. The agent informs them that there is little to no equity left in the house, and tells the Blume's that they will have to pay the agent's commissions out of pocket. Of course, Joe and Debbie can't do that, because they ran out of money and are basically living paycheck to paycheck until the new job starts.
Joe starts to worry a bit, because he needs to get to his new job out of State, within 14 days, and Joe and Debbie would like to spend a few days off together before going to his new job.
Joe starts to think and remembers a "We Buy Houses" sign down the street from their home and runs down and calls the number on his cell phone. After talking with the investor, Joe finds out that the investor isn't will to pay more than 120,000 for the house. Hearing that, Joe is mad and upset that such a person can come in with such a low and insulting offer. Besides Joe couldn't do that deal anyway because the second mortgage they took out last year, places their debt just about what the house is worth.
Getting worried and running out of time, Joe places an ad in the local newspaper advertising the house as a "For Sale By Owner".
Mostly everyone is trying to low ball him except for one guy who said "he will offer the asking price, so long as he can see the place first". Feeling excited and curious at the same time, Joe invites the man over.
A couple of hours later, Brad comes over and tells Joe that he is the one who called about the house. Brad tells Joe to explain to him a little about the house and his situation.
Joe spills his guts and describes his dilemma to Brad. After Joe finishes his story about his situation, Brad tells Joe that he thinks he can still offer the asking price and if Joe was still interested in selling?
But before they start agreeing any further, Brad says, that as an investor, that his primary motivation to make a profit on the house. Joe and Debbie understand that, so long as their asking price is met and the house is sold quickly.
Brad continues and tells both Joe and Debbie that because of his need to make a profit, he needs to offer an agreement which will satisfy both their needs. Brad continues and says "That offer is what's called a Subject To" offer. Of course bewildered and confused, Debbie and Joe ask what kind of program is that. Brad simply states, that it's a program that suspends both their money for the house and his profit on the house for 2 years, while Brad takes over the payments. Not fully understanding, Joe continues to listen to Brad's offer.
Here's what it entails:
>keep the current mortgage in place for 2 years, at which time the house will be sold, and Joe's originally asking price will be met, plus 5% of whatever profit is made by Brad
>escrow account is setup and paid by Brad to ensure full integrity of his contractual agreement with Joe
>property is claimed over to Brad which obligates Brad to continue making the existing payments to the escrow account. The deed will stay in the attorney's presence until the deal is fully obligated by Brad in 2 years
>relieves Joe and Debbie of the monthly debt for the mortgage payment so they can move on with their life
>Brad offers to pay closing cost and 2 months of mortgage payments to the escrow account to solidify his offer and his intentions to make good on the contract
After discussing the deal with each other and realizing that their options and time are running low, both Joe and Debbie agree with Brad over the details and sign over the deed to Brad via the attorney.
Brad then quickly rents out the house to cover the mortgage payments and manages the house as a rental.
Two years later, Brad sells the house for 210,000 and pays 160,000 dollars to Joe and Debbie's mortgage company, plus sends Joe and Debbie a check for %5 of the 50,000 dollar profits, which is 2,500. Everybody wins!