This single family home was sold in May of 2008 for $220,000 with a downpayment of $10,000. The seller agreed to carry an interest only note in the amount of $210,000 for the remainder of the purchase price. Because the note is interest only the outstanding loan balance has stayed the same. This means the buyers only have 5% equity which is lower than most note buyers will consider.
It doesn’t take much to knock 5% off the value of a house. If the buyers don’t take care of it, do maintenance as required, etc. the equity will quickly disappear.
Even worse in these economic times, the property may very well have gone down in value. If a major employer in the community is cutting jobs or other bad things are going on the 5% equity will soon be gone. The reports I am seeing indicate there are millions of people who owe more for their home then it is worth.
In many ways the buyers of this house have been “underwater” since the day they bought. If they wanted to sell the commissions and transaction costs would be more then their 5% “equity”.
What can the seller (note holder) do?
- The note holder might be able to find a private investor or financial institution to lend against the note. If the note holder is financially strong and has an established relationship with a local credit union for example.
- The note holder might be able to work with the buyer to get paid off early. Chances are the buyer is not financially strong; that’s why they did an interest only loan. Sometimes people have money coming from the settlement of a lawsuit or estate. Sometimes they need a year or two to clean up their credit. Sometimes they have relatives who will co-sign on a new loan. This might be especially attractive if the note holder offers a significant discount for early payoff.
The cynic in me says the note holder better get ready to take the house back, renovate it, and figure out a more creative sales approach.
So, what’s a more creative approach?
One technique would be to create two notes. The first position note of perhaps $50,000 would be an amortizing note with a market interest rate, that pays off quickly; five years perhaps. This would have a lot of equity above it and could be sold easily for a small discount. The second note would have very soft terms; small payments etc. The payments would be set to increase after the first was paid off.
The buyer wouldn’t care because their payment on the two notes would be structured to be the same as what they pay now of the single note. The seller (note holder) however would be in better shape because he would at least have something he could sell.
Could the seller (note holder) go back and renegotiate the deal? I would think it might be worth a try if he really needs the money.
