The recent resurgence of vendor take-back (VTB) mortgages has grabbed the attention of those in the pre-construction industry. With the right financing terms, both the buyer and the developer may benefit from this mortgage option.
VTB mortgages first became popular in the late 80s as an incentive for buyers to purchase a home during a time when lenders proposed high-interest rates and severe conditions. From the 90s until 2018, VTB mortgages were put on the sideline.
In today’s real estate market, VTB mortgages are gaining popularity to help buyers with pre-construction contracts. With these contracts, the value of a home can change once the construction is complete, which affects the appraisal.
Understanding VTB Mortgages
A VTB mortgage is a legal agreement between the buyer and seller of a property wherein the buyer “borrows” money from the seller to secure the sale. The seller becomes a financial lender. The amount may be partial or the full amount of the asking price.
Pre-construction real estate transactions are not guaranteed to result in a final deal. A VTB mortgage ensures the transaction will be completed without concern of the buyer dropping out for financial reasons.
Factors Driving the Rise of Vendor Take-Back Mortgages (VTB)
VTB mortgages’ advantages include more buyers and developers entering into these forms of financial deals during pre-construction. Several key incentives are pushing for the re-establishment of VTB mortgages.
Falling Appraisals
While most appraisal gaps are due to rising house prices, it can also happen during times when the home values fall. With pre-construction, it is common for appraisals to come in thousands of dollars lower than expected. That is when VTB mortgages can help secure the sale and prevent buyer walk-aways.
Falling appraisals are associated with sudden shifts in the real estate market, a shortage of home sales, and undervaluation of the property by an inexperienced appraiser. The appraisal gap can also be apparent with a downfall in the economy, resulting in foreclosures.
Smaller Developers
Smaller developers have been seeing buyers renege on real estate transactions with pre-construction sales on single-family homes. This has caused an upswing in VTB mortgages. While leading developers can prevent appraisal shortfalls, smaller builders are investing in building homes on under-evaluated land.
A VTB mortgage offers the developer the same rights as a regular mortgage from a financial lender wherein the buyer could face foreclosure if the monies agreed to are not paid. The developer then would have the right to resell the property to another buyer. Developers may see this as an extra income with the interest earned from the VTB mortgage.
Deposit Risks
With any form of home sale, buyers are obligated to place a substantial deposit down on the sale. This can cause the potential for financial loss for the buyers if the remaining monies are not attainable.
A VTB mortgage allows the builder to lend money to secure the sale and avoid the need to take time to find another buyer. Having a buyer default on the sale may require the builder to take on the financial responsibility of the project.
John Zinati’s Perspective
John Zinati of Zinati Kay – Real Estate Lawyers has been helping buyers and sellers in the Toronto region for more than 25 years with every type of transaction, including VTB mortgages. Zinati is a regular contributor to CTV, CBC, CFRB, and real estate offices.
John Zinati has recently spoken on this subject with the Toronto Star and on CFRB and AM640. With pre-construction homes, Zinati says a VTB mortgage could be a plausible solution for all parties involved. In the case of a shortfall appraisal, Zinati says this form of financing is a saving grace for both the buyers and the builders.
Builders know they may not be able to get a new buyer and they need the deals to close,” says Zinati.
He suggests the VTB mortgage is better suited for existing homeowners as first-time homeowners usually require a bank mortgage. A developer could offer the VTB mortgage based on the equity they have invested into the property in extreme cases where the buyer defaults on the loan payment.
“The seller is acting as the bank and if the buyer can’t pay them back, they need to sell the property to recover the money,” Zinati adds.
Legal and Financial Implications of VTB Mortgages
With a VTB mortgage contract, there are legal obligations for both parties involved. It is imperative to treat this form of agreement the same as a regular Agreement of Purchase and Sale. As a legal document, the VTB agreement outlines the details, clauses, and dates of payments both parties agree on.
VTB mortgages are considered a financial risk due to the high-interest rates associated with the terms and conditions of this form of lending. Developers need to be able to distribute the sale proceeds overtime during the predetermined payment timeline. The good news is that developers can defer capital gains tax with a VTB mortgage over five years.
Get Advice from Zinati Kay on VTB Mortgages
As experienced mortgage lawyers, the team at Zinati Kay – Real Estate Lawyers can help both buyers and sellers navigate the VTB mortgage option. With more than 21,000 successful real estate transactions, we are a full-service residential real estate law firm.
Our professional services are backed with reasonable fees and fixed closing costs. Contact us at 416-321-8766 for more information.