Should I take out a second trust deed on a house I'm selling?

June 5, 2006 3:43 PM

Does it make any sense to take out a second trust deed on a house you're trying to sell?

My brothers and I are selling my late father's house (in California), and our real estate agent just sent an e-mail saying "I wanted to check and see if any of you are interested in carrying a second trust deed? If a first time buyer needs this to qualify. It may help in selling the property faster and to a bigger market group! It may even help with capital gains taxes as well. You could all do a equal percentage or any one of you could do whatever amount you wanted depending on how fast you want and need the cash." I googled and discovered a trust deed is like a mortgage, but I'm at a loss as to how getting a second one (the original mortgage was paid off years ago) would help sell the house; I also have no idea whether it's a sensible idea. Any wisdom much appreciated. (Yes, of course I've written back asking for clarification, but as you may be able to tell from the quote, he's big on enthusiasm and not so great on coherence.)

posted by languagehat to home & garden (12 comments total)

If you can't figure out whether it's a good idea or not, it's probably not. I hope someone here can give you a good explanation, but failing that, just say no.
posted by jepler at 3:58 PM on June 5, 2006

I would imagine that a CPA (Certified Public Accountant) would be wise to consult. Anything that has tax implications should be checked with a qualified professional.
posted by galimatias at 4:13 PM on June 5, 2006

I believe what the agent is saying is this: YOU, personally, could carry part of the mortgage for the property. You would be acting as the bank, to the buyer. The buyer would take out a loan, from you, and pay you with your loan money for the house. Then he would make payments on his loan to you. If he failed to continue paying, you could repossess the house.

Example:

House worth $1,000,000
Buyer can only get bank mortgage for $800,000
You agree to carry $200,000

Buyer borrows $800,000 from bank, $200,000 from you, and buys the house, paying you and your brother $1,000,000. Buyer then makes two mortgage payments every month, one to you and one to the bank, until the loans are paid off.

Since your late father's house has no debt and neither of you are living in it, the agent is considering that you may not "need" a lump of cash but would be willing to settle for an income stream from the house. Clearly this expands the pool of buyers since people who can only get mortgages for $800,000 are now able to buy your house.

If you were considering this, you should certainly engage the services of a competent real estate LAWYER to represent you.
posted by jellicle at 4:54 PM on June 5, 2006

Seems to me, though, that, in the 800/200 scenario jellicle posits, if the buyer defaults...the bank, by dint of holding the larger of the two debts, would possibly have more claim to the property than you.
I can't imagine the property market anywhere in California being bad enough to where you would want to consider doing this just to sell faster or open up to a bigger market group. I mean, who might that be? People who shouldn't be trying to buy the property because they can't afford it? Not sure that's a "market group" I'd want to sell to in the first place.
I always hear alarms whenever a sales person (the realtor) starts suggesting non-standard tricks.
posted by Thorzdad at 5:03 PM on June 5, 2006

By Godfrey, jellicle, your answer makes sense and is actually comprehensible to me (doubtless more than whatever gibberish my real estate agent will send me tomorrow—he's a great guy and knows the market, but damn he has a hard time communicating). Don't worry, everyone, I had no intention of doing anything drastic on the agent's say-so, and I have even less now. I have zero desire to become a quasi-landlord and try to shake down a buyer for mortgage payments. Many thanks.
posted by languagehat at 5:12 PM on June 5, 2006

The agent wants to do this because it makes the house "available" to buyers who are on a much shakier financial footing, so to speak, and are perhaps more motivated to buy whatever is available to them on the terms required. You'd be taking a big risk so Mr. or Mrs. Agent could get their commission check sooner, essentially.

If you're in the business of owning property (as I was for many years) and can tolerate the risk, it has the potential to get the deal wrapped up sooner and net you a few more bucks in the end, but you have to be in a position to foreclose (i.e. pay off the first mortgage in full, all at once) if your buyer defaults and the need arises to repossess the house. I don't recommend it for the inexperienced.

I'm in MN and local laws/procedures may vary.

Email me if you want clarification/more info.
posted by peewee at 5:13 PM on June 5, 2006

jellicle is correct - it means that you in effect become the "bank" for part of the new buyer's loan. I would not automatically assume that it means the buyer can't afford it - some people do it simply to avoid private mortgage insurance, get a better rate, or avoid tying up tons of cash in a downpayment in an inflated market such as CA.

IANAL - though I seem to recall that in a default situation, CA law requires paying of the second mortgage first, in a "last in, first out" kind of way. Be careful - I would DEFINITELY check into those particulars with an attorney, and also compare it to the many other possible ways to invest the proceeds from the sale of the house.
posted by FuzzyVerde at 5:20 PM on June 5, 2006

IANAL - though I seem to recall that in a default situation, CA law requires paying of the second mortgage first, in a "last in, first out" kind of way.

This is not correct. The first mortgage gets paid off first. Period, always. That's why it's called the "first." If a case is encountered where it does not, then in that case the term "first mortgage" has been redefined to mean "second mortgage."

Notice that in this case, even though the "first" on this property was paid off long ago, the OP is being offered the option to hold a second deed, not another first. That's because the lending bank wants to hold the first, because they want their money first in the event of default.

I agree with jellicle; you're being offered the opportunity to assume quite a bit of risk. I wouldn't do it if I were you.
posted by ikkyu2 at 6:43 PM on June 5, 2006

This is actually quite common in some places. I took back a second when I sold a condo in California. It's often done if the buyer is young and hasn't had time to save up a big down payment, but has a sufficiently large income to make mortgage payments. Also, people getting into an inflated real estate market for the first time don't have equity in an existing property to put towards a house. It's not necessarily that risky if the buyer is qualified, and generally the interest rate on the second is higher than the first to compensate for being second in line. If the buyer defaults on the payments, the holder of the second can make the payments on the first while initiating forclosure proceedings; by doing so you could wait for a good price (the bank needs only to sell the property for enough to cover the value of the first mortgage, generally no more than 80% of the value at the time of the sale). And, there is most certainly a secondary market for second mortgages. Usually, the term of the second is much shorter, 5 to 7 years, rather than the 30 year term of the first.

All those banks making second mortgages, do you think they're losing money?
posted by Wet Spot at 7:27 PM on June 5, 2006

All those banks making second mortgages, do you think they're losing money?

No, certainly not. I deleted a long paragraph which boiled down to "If you don't know how to price the risk you're assuming, you can get screwed over."

Mortgage lending isn't a home game. If I had $20 millions to throw around, I might assume 10 seconds under the guess that two of them would go into default, and price the other 8 to cover my risk. But I don't, and I suspect neither does our beloved languagehat, whose pedantry seems to be employed best in other arenas.
posted by ikkyu2 at 7:48 PM on June 5, 2006

Quite right, ikkyu2. (I have a friend who's been trying for 30 years now to get me interested in business and the stock market. "You're smart, you could make a killing!" Maybe, but I'm not interested in money. I just can't pay attention. I managed my 401k investments so well they actually lost money during the boom of the '90s. It's amazing I manage to pay my bills. There's no way on God's green earth I'm about to take on the responsibility of holding a mortgage, especially since I have two brothers who would beat me about the head and shoulders if I fucked it up.)
posted by languagehat at 5:53 AM on June 6, 2006

I asked my mom, who's been a real estate broker for 41 years, about firsts and seconds and so on. She pointed out that what usually happens when the seller assumes the second is that the buyer makes his payments on time and that's that.

However, if the seller defaults, the bank has the right to foreclose. Since the bank is not usually interested in being a property owner, what ends up happening in nearly all cases is that the holder of the second pays the bank's first mortgage off in toto right there, and assumes ownership of the property. (Sometimes the bank lets the second holder assume the payments on the first, or renegotiates the first with them.) That would seem like an OK outcome, because the second-holder has been getting paid all along and now he keeps that money and gets ownership of his property back.

In reality though, there are complications. One is that the buyer may be living on the property he defaulted on, and you can't just come in with a gun and shoot him and cart the body away; there are policies and procedures. Eviction can be extremely costly in terms of legal fees, and in the end you may even have to get the cops involved to physically remove them from the property. It can take minimum 6 months and worst case years, and you can end up having people really, really hate you.

Another problem is that folks who default on their loan payments may be doing so because they're short of cash. If they're short of cash, they're certainly going to be paying their loan off before they do needed property maintenence. So defaulted-upon properties are almost by definition in need of some upkeep. In fact, sometimes this is a reason to default - if, say, the roof caves in during a storm and the buyer had no insurance, the cost of fixing the problem may be more than the buyer has into the property in equity. In this case, it can almost make financial sense to default. The same goes for back property taxes, which if in arrears may in some cases have to be paid up by the new owner.

If you try to evict the buyer, in fact, he may become vindictive and trash the place. Since we already know he has no cash, you can't effectively come after him, and may wind up holding the bag for that bill too.

The bottom line is that if you have enough money sitting around, it can make sense to get into this game, but you have to decide if it's worth it.
posted by ikkyu2 at 4:00 PM on July 7, 2006