As a reputable real estate and mortgage lawyer in Toronto, John Zinati has more than 25 years of experience in the housing market. In that time, he has seen various financing options that buyers and sellers have used to facilitate a successful sale.
In a recent Globe and Mail article, Zinati discussed the renewed interest in using vendor take-back mortgages to accommodate the rising interest rates by the Bank of Canada. This type of financing is used to benefit both the buyer and the seller if both parties agree to the terms and conditions.
The vendor take-back mortgage was seen widely in the late 1980s and in the first few years of the 1990s. It was offered as an incentive to buyers in a world of harsh financing terms by world lenders. Once interest rates began to drop, the vendor take-back mortgage option was quiet until rates rose again in 2018. It has also been seen in times where the housing market has slowed to the point where sellers want a quick sale.
A vender take-back mortgage, referred to as a VTB mortgage, occurs when the seller of a property becomes part of the financing lender(s) for an interested buyer. In this case, a buyer “borrows” a portion or the total amount of the sale price directly from the seller of the property.
The seller receives a monthly payment from the buyer in the form of a loan payment instead of the buyer paying a bank. This removes the need for borrowing the entire portion of the monies from a bank or other financing lender.
The sale of the property is able to be put through with the buyer as the new owner and the seller is able to literally “move on”.
Below are a few things you should know about a VTB mortgage.
Mortgage lawyer John Zinati says that one of the biggest draws of a VTB mortgage is using it as a solution to prevent a house sale from falling apart.
Often times, homebuyers, with the very best intentions, enter into an agreement to buy a property that is beyond their financial means. With only securing a percentage of the offer price, they may ask the seller to enter a VTB mortgage to complete the sale.
Zinati uses the example of a buyer offering $1.8 million for a $2 million home sale, of which the seller does not want to lower the price. The buyer may enter a deal with the seller to borrow the remaining monies in the form of a loan.
A VTB mortgage may also be offered to a buyer who signed a purchase agreement based on a pre-approval from a financing lender with the property having a final appraisal from the lender at a lower value. For example, if a $1 million home sale falls short because the bank has the property appraised at $950,000, the buyer and seller may create a VTB mortgage for the $50,000 shortfall.
As stated in the Globe and Mail article, Zinati says, “It’s a way of saving the deal, perhaps. It’s basically an IOU secured by a mortgage.”
The notion of a VTB mortgage may also be seen when the seller is attempting to offload a property at a higher cost than what they may have recently paid for it. In these types of home sales, the seller may offer a VTB mortgage upfront at a 0% interest loan arrangement.
For instance, a home in the north part of the city of Toronto was listed for more than $6 million with an interest-free mortgage. The property had just been bought six months prior for a lot less than the current selling price. With the housing market seeing a large drop in recent months, the property was actually worth less than it was at the time of purchase.
The VTB mortgage offer was set to entice buyers to pay the full asking price, rather than what the actual value of the home was worth. Buyers who do their homework will be more apt not to pay more for a property just to get “interest-free” loan in the shape of a VTB mortgage. But some buyers may actually be “desperate” enough for housing or to secure their dream home to take the offer.
Zinati explains that using a VTB mortgage as a second mortgage may see higher interest rates. When the VTB mortgage is used to “top up a first mortgage”, it is important to know the terms and conditions of that mortgage as a second mortgage may not be viable.
Any reputable financial lender takes into consideration the borrower’s credit quality, in other words, the individual’s ability to repay the loan. The borrower’s credit history is measured by risk as is the requested ratio of the mortgage.
Zinati explains that if the buyer is needing only half of the value of the property, the second mortgage may be granted, if he/she/they have a good credit record. If the mortgage is valued close to the property’s entire value, a second mortgage is not normally permitted.
With VTB mortgages, the seller usually follows the interest rate or with a lower rate (if any) to entice the sale of the property. It is considered a legally binding agreement. If an existing mortgage of the buyer does not allow for a second mortgage, the lawyers involved have a legal obligation to inform all financial parties.
With all of the variables concerning a VTB mortgage, Zinati usually tells his clients not to consider entering or offering such an agreement.
He bases his advice on past experiences and on the experiences of his clientele. There are many ways a VTB mortgage can work against either, or both, the buyer and the seller.
Consider what would happen if the buyer stopped, or refuses, to make the payments for the VTB mortgage. While the “loan” would be part of a legal provision within the Agreement of Purchase and Sale, it still would be up to the seller to act.
This would need to be done in the form of phone calls, emails, texts, person-to-person visits, or even hiring a lawyer to take the buyer to court. The time, effort, and monies involved may be more than the seller bargained for.
Zinati warns that most people don’t like the idea of being in this position, but they need to understand that this is what happens if the buyer doesn’t pay the mortgage.
The seller in the case of a VTB mortgage must also be aware that if a buyer defaults on a mortgage from a financial lender, the VTB mortgage automatically becomes “second-in-line”. Depending on the timing and the current housing market, a financial lender that forecloses on a house may discover the value of the property has since dropped drastically, forcing all monies uncovered to go directly to them. The seller then would be out of the loop and receive nothing.
So, with the possible variables that do exist, can a VTB mortgage benefit any seller? It can, but only for the same reasons as it benefits the buyer. Financing a buyer in the sale of one’s property can guarantee the final sale so the seller can move to their new home or have a quick sale.
VTB mortgages can be beneficial for the sale of a business as financial lenders require a set amount of assets such as physical inventory, equipment, and property. Not all businesses are the typical brick-and-mortar setups, inhibiting the borrowing of full value.
A VTB mortgage also allows deferring capital gains tax over a period of five years. With a property valued and bought at $500,000, a seller can offer a VTB mortgage to a buyer for an accepted offer of $700,000. The $200,000 capital gains can be deferred as no monies actually traded hands. It can be spread over a five-year timeline at $40,000 per year that is taxable.
For all your questions and concerns about VTB mortgages, mortgage refinancing, or the buying and selling of property, talk to the leading experts at Zinati Kay – Real Estate Lawyers. Our focus on the real estate market and experience as mortgage lawyers can help you navigate through the buying and selling process.
Call us today at (416) 321-8766 and see how we have helped close more than 25,000 real estate transactions in the Greater Toronto Area.
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