Seller Financing VTBs
During the heated market conditions of the mid-2000’s, sellers willing to finance real estate deals were really tough to find. Homes were selling fast and for so much more money than most sellers expected. Today, with cooler housing conditions, lower prices than some sellers want to accept, and terribly low rates on GIC’s, we’re finding more sellers willing to entertain the option of financing some of the property to increase their return, speed up the sale and get a good price for their property.
What Is Seller Financing?
Seller financing,more commonly called a VTB or vendor take back mortgage is simply where the seller (Vendor) of a property is willing to provide some (or all) of the mortgage financing on that property.
Seller financing can take several different forms. We’ve done deals where the seller provided the entire mortgage, which amounted to 80% of the property value. We paid her 6% interest amortized over 25 years for a 3 year term with no prepayment penalties and an option to renew. She was able to sell her house in a slower market and made more money from it than she otherwise would have through three years of interest payments.
We also have used seller financing to top up traditional bank financing. In other words, we’ve had sellers provide us with a second mortgage (which simply means they are in second position behind the bank) to minimize the money we had to put into a deal. We’ve also used it to bring the financing on a property up to 80% of the loan to value when a bank would only loan 65%.
We’ve also used seller financing in the form of a promissory note. This is definitely riskier for a seller because a promissory note is not registered on title, but as an investor it’s a little easier to work with because secondary financing on a property can upset the bank that sits in first position (banks like you to have plenty of equity in the property and won’t fund your deal if you’ll be too highly leveraged with the additional financing).
A promissory note is simply a loan from the seller of the property with a contract stating that you (the buyer) promise to pay a specified amount of money to them (the seller) at a specified time in the future. It is not secured by the property but it is a binding contract whereby you agree to pay a certain amount to the seller. When we’ve used this form of a VTB in the past we typically make one balloon payment to the seller at a time in the future, but you can structure them like a mortgage with principal and interest payments, interest only payments or annual blended payments.
Benefits of Seller Financing for the Vendor
Why would a seller even entertain a VTB? There are several reasons:
faster sale of a property in a slower market
a higher sale price because most investors are willing to pay a premium for a property they don’t have to finance using bank financing
a higher overall return for the seller because even if the buyer doesn’t pay a higher price, there is a usually a good interest rate offered on the deal which essentially equates to a higher overall sale price. For example if the home would have sold for $300,000 but there is a two year 80% loan to value VTB at 6% interest, the seller is essentially getting $328,800 for the property ($240,000 mortgage times 6% interest times 2 years).
There are also potential tax savings if the home was not the primary residence of the seller whereby they can defer some of their capital gains to future years which can help to reduce the income tax bracket the gain ends up being charged in.(of course, sellers should speak to their accountant to understand if this benefit applies to them and their situation).
The biggest benefit for a seller is gaining a higher return on the proceeds of the sale of the property than if the funds sat in the bank.
Why earn 2% in a “high interest savings account” at your bank when you can earn 6%, 7% or more on your VTB? It’s a property the seller is familiar with, and the worst case scenario is that the buyer defaults on the payment and the seller gets the house back to resell again.
What kind of security does a seller have who puts their sale proceeds into mutual funds or stocks? None.
VTB’s aren’t the solution for every seller, but many folks are looking for ways to reduce their tax bill and still dispose of a property. Others want to bring in secured income every month. For some other sellers, it is just a way to sell an otherwise tough to unload property. Vendor take backs provide an excellent solution for these types of sellers.
How to Find Vendor Financing Opportunities
There is only one way we’ve ever found sellers willing to carry financing … and that is to ASK!
Yes, it is occasionally mentioned in a listing and once in awhile an agent will mention it to us, but in all the cases where we’ve actually done a deal that used seller financing it’s been because we asked.
There is no sure way to know a VTB is going to be an option until you ask but some positive signs that one is a possibility include:
A mention in the MLS listing that there are no financial encumbrances on the property
A mention in the MLS listing that the seller is willing to carry financing
Any indicators that it’s a rental property and that the property has been owned by the current investors for over 10 years
Private sales where there is an indication that the sellers are willing to be creative with the deal
Retirees downsizing into smaller condos or smaller homes who have paid off their home and don’t need their cash in a lump sum
Quick price drops on a MLS listing. This can often indicate a strong motivation to sell. Why not offer a good price for the property in exchange for them carrying some or all of the financing?
In general, we find that the easiest place to find people willing to do a VTB is your local real estate investing club. Fellow real estate investors typically understand seller financing more than average home sellers and unless they have immediate plans for the cash many investors are happy to get a secured return on their money for awhile. Plus there are the tax benefits of being able to defer some of the capital gains on the property for a few years. There are many sellers who benefit from a VTB so all you need to do is simply ask!
The above article in an excerpt from an article Julie wrote for Canadian Real Estate Magazine. It was published in the October 2010 issue and is available right now in stores that carry the magazine.
Published September 29th, 2010