What is a wrap around mortgage?
Simply put, a wraparound mortgage is a new mortgage that is created on a property that “wraps around” an existing mortgage. Surround mortgages, or ‘wraps’, are typically used when selling a home with owner financing.
Here is an example using a Wrap Around Mortgage:
House value: $150,000
Original loan amount: $130,000
Original interest rate: 6% (fixed rate mortgage)
Investor Offer: $97,500
The homeowner can sell the home through a wraparound mortgage to a new buyer with the following terms:
Sale Price: $155,000
Initial payment: $10,000
New “whole mortgage” amount: $145,000 (the balance of the new loan)
New interest rate “enveloping mortgage”: 7.5%
In this example, the homeowner could keep the $10,000 down payment (which will help cover closing costs) and collect the monthly mortgage payment of $1,013 (7.5% of the $145,000 loan), which is used to pay existing mortgage payment. of $780 (6% on the $130,000 loan) resulting in $233/month in positive cash flow.
As for taxes and insurance, the seller who creates the wraparound mortgage can either pass on the existing escrow to the new buyer or can create a new escrow account to cover these expenses.
The main disadvantage of selling a house with a wraparound mortgage is that there is always the possibility that the new buyer will stop making payments. If this happens, the seller in the transaction would have to foreclose on the property, take possession, repair the house if necessary, and then sell the property again. This can be a very costly circumstance and by some estimates this occurs in 70% of owner financed transactions. There are several ways to structure these offers and assess your buyer that can make your success rate much higher.
Common Wrap Around Mortgage Questions
Can any house be sold with a wraparound mortgage?
Mostly, yes. Even in cases where there are multiple liens on a property, a new wraparound mortgage could be created and then sold to a buyer. In rare cases, a seller will create a comprehensive mortgage for which the monthly payment is less than the underlying mortgage payments, resulting in negative cash flow for the seller. Why would a seller do that? In some circumstances, this may be the only way to sell the house.
How long does the wraparound mortgage last and what happens when the buyer sells or refinances?
Most sellers using a wrap mortgage will structure the deal so that the buyer must refinance the “wrap” after a period of time, 2-5 years is quite common. If the buyer doesn’t refinance in that time period, the seller can structure penalties into the contract, such as the interest rate increasing in periodic time increments. When the buyer successfully refinances the home or sells the home, the seller’s original loan is paid off and the remaining balance is paid to the seller. In the example above, the seller would receive $15,000 when the new buyer refinances or sells the house. This is called “the bottom line.”
Can the lender take back the loan if I use a wraparound mortgage?
Technically they could, but most likely they wouldn’t. Almost all mortgage documents have a provision that states that whenever a home is sold, the lender has the right to “call the loan due.” This is called the “sell expiration clause.” That said, we have never seen a case where a lender actually applies for a loan where the loan payments are made in a timely manner.