Note Owners Manual
This publication is designed to provide accurate and authoritative information regarding the subject matter covered. It is sold with the complete understanding that the publisher is not engaged in rendering legal, accounting, or other professional services. If legal advice or additional expert assistance is required, seek a competent professional, from a Declaration of Principles jointly adopted by a Committee of the American Bar Association and a Committee of Publishers.
Why an Owner’s Manual?
This manual is designed to assist people selling a property or receiving monthly payments on a property they have already sold (mortgages, trust deeds, or land contracts).
Mortgages, trust deeds, and land contracts can be excellent investments. These are all referred to as “Seller Take Backs” or privately-held loans (mortgages, trust deeds, etc.). But, like anything else, it pays to know a few basics…pitfalls to avoid, and opportunities to explore.
Please take a few moments to read this manual. It is full of valuable information from “What to do if the purchaser fails to make a payment on time” to “How you can sell some or all of the payments on your loan for cash.”
We suggest you keep this manual in a safe place along with your land contract for as long as you receive monthly payments. A “Payment Record Keeper” is included at the back of this manual to assist you in keeping accurate records on your land contract, trust deed, or mortgage.
Introduction
A mortgage, trust deed, or land contract is a written contract between a person who has sold a property and the person who bought the property.
Taking back financing is a sensible way to sell a property and is extremely common all over the United States. In some states, they are called Trust Deeds, Contracts for Deeds, Deeds of Trust, Notes or (privately held) Mortgages, but they all represent the same thing: a way of selling a property where the Purchaser “borrows” from the Seller rather than paying cash upfront or borrowing from a bank. All of these vehicles are referred to as Seller Take-Back financing. Let’s explore some of the essential ingredients in your mortgage, trust deed, or land contract now.
Although mortgages, trust deeds, and land contracts are relatively simple documents, we suggest you read your documents and this owner’s manual once a year. There’s no better way to know your rights as well as your options.
For valuable advice on how to sell property using Seller Take-Back financing, see “Tips for Selling Property Using Seller Take Back Financing” of this owner’s manual. When a property is sold and a Seller Take-Back mortgage is used, the Seller, who is now also the Lender, is called the Mortgagee. The Buyer, who is now the Borrower, is called the Mortgagor. When a property is sold using a Seller Take Back Trust Deed, the Seller is the Beneficiary; the Buyer is now the Trustor, and there is a third party who acts as the titleholder called the Trustee. When a land contract is being used, the terms Purchaser and Seller are used.
This publication is designed to provide accurate and authoritative information regarding the subject matter covered. It is sold with the complete understanding that the publisher is not engaged in rendering legal, accounting, or other professional services. If legal advice or additional expert assistance is required, seek a competent professional, from a Declaration of Principles jointly adopted by a Committee of the American Bar Association and a Committee of Publishers.
Helpful Hint
On the Payment Record Keeper (see the back of this manual), write the Buyer’s phone number, mainly if it’s an unlisted number. The Buyer’s phone number is handy to have if you need to reach him or her on short notice, if a payment is late, for instance, or if you would like the next payment sent to a summer address.
Legal Description
Along with the actual “soil” sold, the Seller also conveys such things as any buildings, easements, tenements, hereditaments, improvements, and appurtenances. (See the Glossary for a quick definition of these items.) In short, the Seller conveys everything permanently affixed to the property sold.
Helpful Hint
Right next to the legal description on your contract, write in the parcel number (also known as a “Tax ID” number or a “Sidwell” number) of the property used by the tax authorities. The Tax ID number makes it easier to check to see if the taxes on the property have been adequately paid by the Purchaser each year. An annual call to the county’s treasurer where the property is located is often required to find out whether the property payments are up to date. To avoid late payment penalties and the eventual sale of your property by the state for back taxes, make sure to check each year that the property taxes have been paid!
Believe it or not, many contracts do not mention the actual street address of the property sold. For future reference, add it here, next to the legal description.
Prices and Terms of Payment
This area contains the following figures and dates: total purchase price, down payment, beginning balance remaining (the purchase price minus the down payment), the monthly payment (or annual or semi-annual payment, etc.), the interest rate stated in terms of an annual rate, the date of the “balloon” payment (if any), and date the first payment is due.
Purchase Price – The purchase price (sometimes referred to as “consideration”) is negotiated between the Seller and the Buyer. Properties sold with Seller Take-Back financing often sell for more than properties sold for cash because the Seller provides the all-important financing.
Down Payment – The down payment is usually 10 to 20 percent of the purchase price. From your standpoint as the Seller, the bigger the down payment, the better. It represents money that does not have to be collected in an uncertain future, and it also represents the Purchaser’s commitment to the property.
Therefore, a property sold with no down payment is quite risky since the Buyer, initially at least, is no more financially committed to the property than a renter would be.
Similarly, non-cash down payments (barter items such as used cars, snowmobiles, applied rent, etc.) and down payments to be paid overtime, or borrowed from friends or parents, are also riskier than those paid in cash out of the Buyer’s pocket. (See “Tips for Selling Property Using Seller Take Back Financing.”)
Balance Remaining – Initially, this amount is the purchase price minus the down payment. The balance remaining should go down with each monthly payment made by the Borrower. An amortization schedule shows how the balance will be reduced by monthly payments made on time. (See schedule in the “Payment Record Keeper” at the end of this manual to see how monthly payments reduce the balance over time.)
Helpful Hint
Amortization schedules can be obtained from banks, real estate offices, and title companies for a small charge. Feel free to call us for a complimentary amortization schedule based on the balance remaining, interest rate, and payment amount of your mortgage, trust deed, or land contract.
Loans can be structured interest only and a balloon (see the section on balloons) or for a longer-term of years and a balloon. This keeps the Buyer’s payment manageable and gets the Seller paid off in the desired time. If you need any assistance in structuring this type of payment plan, please call us.
Helpful Hint
Payment Due Date –This is the date when the first payment is due. A “grace period” in some contracts permits the Purchaser a few days each month during which he or she may fail to make payments and not be considered in default. Also, some mortgages provide for a late fee if the payment is not received on time or within the grace period.
Helpful Hint
Balloon Payment – If your loan contains a clause that reads something like, “The entire purchase price and interest shall be fully paid within five years from the date hereof, anything herein to the contrary notwithstanding,” then there is what is known as a “balloon” in the loan (a five-year balloon, in this example).
A “balloon payment” is the term used for a large, final payment on the loan. Balloon clauses usually call for the final payment in 5, 10, 15 years, etc., from the original sale date.
If the Borrower fails to make a balloon payment, this constitutes a default on the contract. (See the section entitled “Default” for a discussion of your options in the event your Borrower fails to “pop the balloon” by financing the last, large payment owed.
Helpful Hint
For advice on what to do if your Borrower cannot make a balloon payment, call us. We face these situations frequently and are experienced in exploring all the options available to someone who is owed a balloon payment by someone who can’t pay it. We may even be able to provide you with all (or nearly all) of the money owed you by the Borrower without foreclosing or forcing a sale of the Borrower’s home.
Interest Rate – The interest rate is stated in annual terms. When recording each payment made, interest is calculated for the payment period (usually monthly) by multiplying the interest rate by the balance due and dividing this annual interest amount by the number of payments made each year. This number (total interest for the period) is then deducted from the payment. The rest of the payment is the principal portion of the payment and is deducted from the principal balance remaining on the loan. Sound confusing? It’s really not if you follow an example. Consider a transaction with a sale price of $75,000, a down payment of $10,000, with a Seller take-back loan of $65,000, payable with monthly payments at 10%. The interest portion of the first payment will be $541.67 ($65,000 x .10 divided by 12) payments per year, and the principal portion of the payment will be $85.59 ($627.26 – $541.67). The remaining principal balance on the loan after the first payment will be $64,914.41 ($65,000 minus $85.59). (See the “Payment Record Keeper” of this owner’s manual see a brief example of how interest is calculated and how you can easily keep records on your land contract.)
Taxes and Insurance
The person responsible for making tax and insurance payments can vary depending on the terms of the mortgage. The three most common ways to handle the payment of taxes and insurance on the property are as follows:
- The Borrower pays taxes and insurance.
- The Lender (Seller) pays taxes and insurance but then adds the amounts paid back to the balance on the contract.
- The Borrower makes monthly contributions to an escrow account held by the Seller, and the Seller pays taxes and insurance out of this account.
Helpful Hint
Helpful Hint
If the Borrower ever fails to pay taxes or insurance bills, you have the right to pay them at any time after they are in default and then add the cost of those expenses to the balance of the contract. Therefore, it is always a good idea to inform the insurance company that you should be notified if there is a cancellation or some other lapse of coverage.
Borrower’s Duties to Maintain Premises
It is the Borrower’s duty to protect the value of the property until it is paid in full. This clause is important because the value of the property is what keeps the Borrower making payments. If the Borrower ever defaults and suffers a foreclosure, the property’s value should enable the Seller to resell without a loss.
Most loans require the Borrower to notify the Seller in writing before the Borrower or any third party neglects the property or allows it to be used in a way that lessens its value or removes, changes, or demolishes any buildings or improvements on the premises in a way which may diminish the property’s value.
Helpful Hint
Default
If the Borrower fails to perform any significant part of the contract, the Seller may have the right, after notifying the Borrower in writing of the exact nature of the default, to take legal action. If the default continues, the Seller probably has the right to de¬clare the remaining balance due and payable and, if the default is not then cleared up or the loan is not paid in full, the Seller can begin foreclosing.
Defaults by the Borrower may include failure to properly main¬tain the property, failure to ensure the property adequately, or failure to pay taxes on the property as they become due.
The way Borrowers most commonly default is, as you would expect, by failing to make timely payments. If payment is ever late, we recommend taking the following steps: (1) Check the contract to see if a “grace” period exists. If so, you must honor it. (2) If no grace period exists or if it has expired, phone the Borrower and ask about the payment. Insist upon payment, note the date and time of the call, and keep this information with your land contract. (3) On the same day as the above phone call, write a letter that identifies the default and summarizes any action the Purchaser has promised to perform and mail it, certified mail, return receipt requested. (4) If the above steps do no1 produce the desired results, contact an attorney immediately. Trying to cure a default by yourself can cause problems for you — the Seller.
Helpful Hint
If legal action is required, a Seller has the right to initiate fore¬closure proceedings. Find an attorney with experience in the area of real estate foreclosure. Also, it may require your attorney to appear in court. It is best to hire one who lives near the property in question. This will save you from paying travel time and other unnecessary expenses.
Helpful Hint
Remember, you are not the “bad guy”…the Borrower is the one not making payments. They can sell the property, refinance the property or bring the payments to a current status. The ball is in their court. Explain the available options and tell the Borrower you are prepared to bring legal action. After an ini¬tial phone call and a certified letter, only swift and decisive action taken with the assistance of legal counsel is likely to cause them to act. Be honest, firm, and considerate. Don’t ha¬rass and don’t delay!
Helpful Hint
Keep records of all written and spoken conversations with the Borrower, including dates, times, and discussed topics. You’ll never know how or when these records will come in handy until you need them but don’t have them. Then it’s too late!
A failure to enforce any clause in your contract can, over time, establish the precedent that the clause is not binding and has no effect. In other words, actions speak louder than words. Consistent conduct over a period of time, in fact, can take precedence over the actual wording on your contract in a court of law! In short, please stick to the contract or be prepared to find it difficult to enforce in court.
Tips for Selling Property Using Seller Take Back Financing
Using Seller Take-Back financing can be an excellent way to sell your property quickly for a good price. As conventional financing becomes even more costly, more difficult to obtain, and more time-consuming, Seller financing will become even more popular. (We estimate that approximately 15% to 20% of property sold is sold with Seller financing.)
If you’re thinking about selling some property and taking back financing, here are some things you should know that could be beneficial to you in the future, especially if you want to sell the mortgage, trust deed, or land contract for cash someday. The way a mortgage is planned and written can have a lot to do with its sales value in the future.
The Purchase Price – The purchase price is negotiated between you and the Borrower, but some objective standards can be used as the basis for negotiation.
One method is to have three different Realtors do a market analysis on the property, complete with two or three “comparables each. (Comparables are comparable to the subject property and can be used to determine its market value. An average of these three analyses will usually give you a good idea of the selling price for the property. This service is often free since the Realtors will be competing for the right to list your property. (Be advised, though, that Realtors may overestimate the value of your property to win the right to list it.)
A second method is to hire an independent appraiser to do a complete appraisal on your property, which would include (as above at least three comparables. This method is more expensive (from $150 to $600) but is also more authoritative.
The Down Payment – The down payment should be as large as possible. A larger down payment means the Purchaser has more equity and owes less, both of which make the contract more se¬cure and thus more saleable. Remember, the larger the down pay¬ment, the more your loan is worth. Ensure the down payment is paid out of the Borrower’s pocket, not his or her parents’ pockets. Politely but firmly ask where the down payment is coming from and make your selling decision accordingly.
Finally, avoid “nothing down” ($0 down payment) Borrowers. Making no down payment is a shrewd way to purchase property but a poor way to sell it. Making down payments over time ($1,000 today, $1,000 in six months, etc.) is another version of the $0 down Borrower. Consider carefully: Do you really want to sell to a Borrower who is unwilling or unable to commit financially to the property?
The Interest Rate – The interest rate on your loan should be close to interest rates currently charged on mortgages by banks and savings and loan associations. There are legal maximums in most states. See your attorney for details.
The Monthly Payment – The amount of the monthly payment is determined by the amount of the loan, the interest rate, and the term of years (5, 10, 15, etc.) The higher the amount of the loan and the interest, the higher the payment. The shorter the term of years, the higher the payment.
Loans can be structured, interest-only, and a balloon (see Section on Balloons) or a longer-term of years and a balloon. These options keep the Buyer’s payment manageable and get the Seller paid off in the desired time. If you need any assistance in structuring this type of payment plan, please call us.
Taxes and Insurance – Lending institutions generally require the buyer to pay one-twelfth of the estimated yearly real estate taxes per month and one-twelfth of the estimated insurance costs in addition to the monthly payment. At the end of the year, the money is on hand to pay the taxes and insurance. This option is a wise strategy. Since the loan will run over a period of time, there is always the chance property taxes will be raised. Be sure to include a clause that provides for increasing the payment when this happens.
Underlying Debt – If you currently owe on a piece of property, you do not necessarily have to pay off your present land contract or mortgage. Instead, you can sometimes continue to make monthly payments in the required amount just as before. (The original obligation is often referred to as “underlying debt” since it “underlies” – is superior to and existed before – the debt owed to you on the more recent sale of the same property.) However, check the mortgage you are paying on to see if a so-called “Due on Sale” clause requires you to pay off the debt if you sell the property.
Amortization – How long a loan is scheduled to run is referred to as amortization. The amortization depends on the size of the contract, the size of the monthly payment, and the interest rate being charged. (The higher the interest rate and/or the smaller the monthly payment, the longer the amortization will be.)
For you, the Seller, the shorter the contract, the better. To shorten the length of the contract, you can increase the down payment and/or increase the size of the monthly payments. Contracts with 10- to 20-year amortizations are common and are preferred over contracts with 30-year amortizations.
You may also consider including a “balloon payment” due in 5 to 10 years. A balloon payment means the full amount owed will be due at that time. Even if the balloon is not “popped” (paid in full by the Borrower), it allows you to increase the monthly payment and the interest rate (or both), as well as set a new balloon payment one or two years down the road. By the time the balloon payment becomes due, such increases are generally easily accommodated by the Borrower and may be a preferred option to foreclosure.
As a service both to you and the Borrower, don’t set balloon dates that are too near. One and two-year balloon clauses are often un¬realistic and create unnecessary difficulties for both you and the Borrower.
The Borrower’s Credit Worthiness – Like any lender, you have every right to information that shows the Borrower has an adequate source of income to pay the obligation. Get references; find out where he/she works, annual income, and obtain a credit report showing how promptly current debts are paid. If selling to a person with a less than commendable credit record, insist on a large down payment or find another Buyer.