December 26, 2023 at 6:17 pm #28854December 26, 2023 at 8:36 pm #28883
A wraparound mortgage is another alternative financing option where the seller finances the mortgage in a deal that benefits both parties. In a wraparound mortgage, a seller decides to sell their home while they still have some mortgage balance. The seller then pays off the remaining mortgage balance using the buyer’s monthly payments towards the purchase of the home. The seller benefits because they can charge a higher interest rate than they are paying. The buyer benefits because there aren’t any cheaper options available. Let’s try to understand this with an example:
Say Seller A bought a home some years ago for $300,000 and a fixed interest rate of 5%. Seller A’s principal and interest payment amounts to $1,288 a month. Seller A then needs to get their lender’s approval to opt for a wraparound mortgage. Once they get the approval, Seller A finds Buyer B who agrees to buy the house for $350,000 with a $70,000 down payment and 7% interest. Buyer B sends Seller A monthly payments of $1862 according to the agreement. Seller A uses this amount to pay back the remaining mortgage while making a profit of $574 a month.
Buyer B also profits from the arrangement if they have taken out a loan for Seller A’s remaining mortgage. Once the loan is repaid, Buyer B becomes the owner of the home.
Pro and cons
One of the biggest advantages of a wraparound mortgage is that it is easier to qualify for it than a regular mortgage that has strict requirements of income, credit score, employment, etc. The buyer may be able to borrow less since they will only have to take out a loan for the remaining mortgage balance. The seller, of course, can profit from increasing the interest rate they charge, earning a monthly profit. This type of mortgage financing also makes the property accessible to more buyers.
One thing to be careful about though is that the mortgage has to be assumable for it to be converted to a wraparound mortgage and needs the lender’s approval. If the seller does not get approval from the original lender and breaches the contract without paying the mortgage, the lender could foreclose the property or demand full repayment. Similarly, the risk of buyer default is equal in a wraparound mortgage. The buyer may not make their monthly payments forcing the seller to pay out of pocket, failing which their credit score may be hurt. The seller generally charges a higher interest rate to earn a profit which may be more expensive for the buyer.
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