Every real estate investor must answer the question of how to finance property purchases, no matter how flush your cash revenue stream might be. It can be hard enough to find properties that bring in a hefty cash flow in the first place, but when it’s time to come up with a down payment, that can add an extra step to the process. The same applies for those buyers that have a decent (10%) down payment but do not meet bank requirements.
This was enough of a challenge before the mortgage crisis of 2008. Nowadays, the rules that banks have for investors are even more stringent. The due diligence takes a lot longer, and you must have much better metrics – credit score, assets and revenue stream – if you’re going to use a bank to finance your full-time real estate investments. Therefore, so many investors join up with partners in a joint venture or turn to private lenders to find their capital. For buyers that have had a few credit hiccups in the past, you will have your own hurdles with respect to credit and meeting the banks criteria… and the mortgage insurer (CMHC, Genworth, Canada Guaranty).
Another way to go is vendor financing. Basically, this involves the seller of your investment property carrying all or part of the financing for the purchase. A lot of sellers won’t want to do this, but some will. Finding a VTB seller is tougher to find when the market is hot. In a slower market, sellers are having to take prices that are below what they wanted. Some sellers will consider creative options to get a deal done.
So just what is vendor financing?
Also known as owner financing or a vendor take back (VTB) mortgage, this type of note simply means that a property seller (or vendor) will help out with the financing of the deal. This can involve financing the whole mortgage, or it can involve a percentage of the deal. Sometimes sellers are willing to provide a second mortgage (which means a lender has first position) to cut down on the amount of money that an investor must put into the transaction. In cases where the bank won’t provide as much as the investor needs (but WILL provide some), this extra financing can make up the difference.
A VTB mortgage doesn’t have to be an officially registered loan on the property, either. In some cases it can become a promissory note. This is a contract in which you, the investor, promise to pay a set amount of money to the vendor/seller at a certain point in time. The property does not act as security; the contract is the security. This often turns into a balloon payment down the road, or you can structure the repayments in the traditional combination of interest and principal, using your own amortization calendar.
Advantages of VTB Financing for Sellers
You might wonder why anyone would want to provide VTB financing on a property that they were trying to sell. There are some situational advantages that make this a good idea:
- Quicker sale in a soft market
- Higher selling price from investors willing to pay more if they can avoid a bank mortgage
- Higher overall return on the basis of a higher price and/or a higher interest rate that sellers can ask as a premium for avoiding bank financing requirements
If the seller doesn’t live in the property as a primary residence, they can push the capital gains on the sail back into future years because of the deferred payment schedule. This can lead to a lower tax bracket on future income. So the lower tax bracket leads to an effective higher return on the property proceeds.
Think about it. If you get $500,000 in cash, and you stow it into a savings account at 2%, why wouldn’t you want to bring in 6% or 7%, or even 10%, on a VTB mortgage? The worst thing that could happen is default – in which case you get the property back. That’s a lot more security than the bond or stock market – which offers no security. Mortgages are a highly secure form of debt.
How can you find properties likely to come with VTB financing?
Occasionally, you will see a listing that includes a seller’s willingness to provide some or all of the financing. However, you’ll also find that many more sellers are willing to provide financing than those who list it. If the MLS listing indicates that the property has no outstanding liens, that it is a rental property that the owners have had for at least a decade, or that sellers are willing to work privately and use creative terms – or that the seller is a retiree that doesn’t need the cash out of the situation. Also, a big drop in a price on a property shows a motivated seller. If you are an investor, one great place to look for a VTB mortgage is a real estate investing club. You’ll network with other investors – and other potential sellers who have the equity in place to make borrowing work.
Are you looking to purchase a property using creative measures? Get in touch with Amansad Financial today. We can link you with some sellers who are willing to work with VTB loans, and we also have a wide range of financing solutions in our network if VTB turns out not to be the best solution for you. Contact us today!