What it is and how it works – Forbes Advisor
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If you are having difficulty qualifying for a traditional mortgage, another financing option may be available. A global mortgage is a form of seller financing designed to benefit both parties when buying.
Buyers may have a better chance of qualifying for a home loan, and sellers may take advantage. However, both buyer and seller should understand the pros and cons of this financial arrangement.
What is a Wraparound Mortgage?
In a traditional home purchase, the buyer borrows money from a lender and uses it to pay the seller for the house. A master mortgage is different in that the seller keeps their original loan and provides financing to the buyer. The seller’s loan is the overall mortgage – it is wrapped around the original home loan.
The buyer sends their monthly payment to the seller, who uses some of the money to make the mortgage payment. Because the seller can charge a higher interest rate than he is paying, he will make a profit in the process. In exchange, the buyer obtains financing when no cheaper option is available.
Sample Wraparound Mortgage
Let’s say John bought a house several years ago for $300,000 and it is now worth $350,000. With a fixed interest rate of 5%, John’s principal and interest payments total $1,288 per month. John wants to sell the house and he gets approval from the lender to take out a comprehensive mortgage. A buyer named Jane agrees to pay $350,000 for the property with a down payment of $70,000 and an interest rate of 7%.
Jane sends John $1,862 each month according to their written agreement, and John uses some of that money to pay off the original mortgage. Jane’s interest rate is higher than John’s, so he makes a profit ($574) every month.
A blanket mortgage could also work if Jane only took out a loan for the remaining balance of John’s mortgage. He can still avail the deal with the higher interest rate.
Related: Mortgage calculator: calculate your mortgage payment
How does a Wraparound mortgage work?
If a seller wishes to offer a global mortgage, he will have to check if his mortgage is “assumable”. An assumable mortgage is a home loan where the buyer takes over or assumes the same terms as the seller’s existing mortgage. Federal Housing Administration (FHA) loans, United States Department of Agriculture (USDA) loans, and Veterans Affairs (VA) loans are assumable, but conventional mortgages generally are not.
If the seller has an assumable mortgage, here’s how the rest of the process works:
- The seller must obtain permission from their lender before proceeding with a comprehensive mortgage.
- Once the buyer and seller have agreed on an overall deal, they negotiate the loan amount, interest rate, and down payment.
- Both parties will sign a promissory note which includes the terms of the mortgage.
- The seller retains the existing mortgage on the home and transfers title to the buyer immediately or after the loan is paid off.
- The buyer sends the seller their monthly payment, and the seller then pays the original lender.
Point: A global mortgage takes the position of a second mortgage or a “junior lien”. If payments are not made, whether it is the fault of the seller or the buyer, the lender can recoup its losses by seizing the property and selling it.
Advantages of a global mortgage
Blanket mortgages can benefit both buyer and seller in several ways.
- Simplified qualification: Getting a standard mortgage can be difficult if you have a low credit score, a non-traditional job, or a high debt-to-income ratio (DTI). But it may be easier to qualify for a comprehensive mortgage or get better terms.
- Lower loan balance: Depending on what the seller agrees to, you may be able to borrow less with a blanket mortgage – enough to cover the remaining loan balance and a small profit for the seller – compared to a standard mortgage.
For the seller
- Earning potential: Sellers can charge a higher interest rate than they have, earning them a monthly profit.
- Expands the pool of buyers: Offering a global mortgage as a financing option may make the sale more accessible to some buyers, as it is more flexible and easier to obtain.
Disadvantages of a global mortgage
However, blanket mortgages have drawbacks for both parties.
- Higher interest rate: Wraparound mortgages are a form of seller financing, which are generally more expensive than a traditional mortgage. The seller can charge a higher interest rate to cover their risk and make a profit.
- Breach of contract: Another potential risk for buyers is that the seller accepts a global mortgage without obtaining the consent of the original lender. If the seller fails to honor their original contract, the lender may be able to demand full repayment or seize the property.
- The seller could by default: The buyer makes monthly payments directly to the seller, who in turn pays the mortgage. If the seller fails to make these payments, the lender can foreclose and force the buyer out of the property. To reduce this risk, some buyers add a clause to their purchase contract that allows a portion of their payments to be made directly to the lender.
For the seller
- The buyer could by default: On the other side of the transaction, the seller also faces a risk if the buyer fails to make his payments. The seller will either have to find the money out of pocket or miss payments, which can hurt their credit rating.
Global Mortgage Alternatives
Buyers typically seek wrap-around mortgages when they’re having trouble qualifying for a standard home loan or getting affordable loan terms. But due to the risks involved, you may want to consider other options first.
- Improve your financial situation. Consider delaying buying a home for a few months. You may eventually qualify for a traditional mortgage if you can improve your credit score, pay down debt to lower your DTI ratio, or save for a larger down payment.
- Find out about government-sponsored mortgages. FHA, USDA and VA loans are all designed to make home ownership more affordable. Eligible buyers may be able to secure a home loan despite having a low credit score, high DTI ratio, or low down payment. These loans also usually come with competitive interest rates, although buyers may be required to pay for mortgage insurance.
- Ask for down payment assistance. If you’re having trouble saving for a down payment, you may find help through down payment assistance programs. These provide homebuyers with money to cover their down payment or closing costs. The money can come from a grant that does not have to be repaid or from a loan on affordable terms.
If you are a seller looking for an alternative or way out of your mortgage, ask your lender about relief options. You can also consider using the house as an investment property and renting it out.
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