Subject To, also known as “subject too” or “subject2” refers to acquiring a property subject to the existing mortgage. This means that you agree to make the payments but you do not formally assume the loan.
Acquiring a property subject to the existing debt allows you to get into a deal without having to go out and get new financing. This saves time and particularly saves money. You can avoid the closing costs that are associated with new financing as well as application fees, underwriting and all the other bumps in the road that come with new financing.
Another benefit that many people don’t think of can come into play – amortization. The first eight to ten years of a 30 year loan are largely interest payments. Very little of the monthly payment goes to paying down the loan balance. However, if you take a property subject to the existing debt and the loan has been in place for more than five years, you are jumping over all those interest payments and moving right into a higher principle pay down scenario. More of your payment is going towards building up your net worth.
Homeowners and the Subject To Deal
Homeowners are understandably nervous when you introduce the idea of a subject to deal. After all, their name is on the note and mortgage and their credit is on the line. You need to prove to them that you are trustworthy and that you will make the payments on time. Many banks and lenders allow you to view your account online. You can keep the owner in the loop by giving them access to the online account to make sure the payments are being made on time. Another way is to send them a statement or receipt each month from the bank or lender.
You can use your subject to deals as part of your credibility package, proof that you do what you say you will. Have a printout of your on-time transactions for each property. When you are sitting with a homeowner, negotiating a subject to deal, showing people this proof of on-time payments may be the tipping factor that gets you the deal.
For homeowners who have been struggling with payments, you can offer the added benefit that your on-time payments, made in their name, will help rebuild their credit.
As an extra reassurance, you will want to have the property insured and name the mortgage company as additional insured. If anything catastrophic happens to the property, the lender can be paid by the insurance company, the same as it would be with the original owner. Telling the owner that this is just part of the way you do business will let them know that you are a professional; you have done this before with other people and that you intend to honor your promises.
Subject To Caveats
One caveat with taking a property subject to – be wary of Adjustable Rate Mortgages. ARMs can ratchet up quickly and you don’t want to find yourself with sky-high payments and a negative cash flow property. Low fixed rate loans are optimal when doing a subject to deal.
Some people will tell you that subject to deals are illegal. This is not true. In many states, the standard real estate purchase offer form, used by licensed agents and brokers, has a subject to clause right in it. People think subject to deals are illegal because selling a property subject to could trigger the due-on-sale clause. The due-on-sale clause states that if a property is sold, the lender can call the entire loan due. For the most part, if the payments are being made on time, the lender isn’t going to notice or care that the property has been transferred to someone else. The mortgage is still in place to secure the note. However, be aware that some lenders have called loans due and be prepared for that contingency.
Real estate people know each other – it’s a small community. If you agree to take over a property subject to the existing debt, honor that and make the payments on time. People talk. If you get a reputation for not taking care of your owners, i.e., making payments you have agreed to make in a timely manner, you make every investor in the community look bad. Your goal is to be in this business for the long run and that means protecting your reputation and maintaining your integrity.
Now you know what is Subject To investing and realize that it is a powerful tool in your investing toolbox. Knowing how to introduce the idea to homeowners and giving them confidence in your integrity can help you get more deals without putting your credit on the line or running up costs to your business. Learn the ins and outs of subject to and you can rapidly add properties to your portfolio.
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