If you are purchasing your home using seller financing, consider structuring it with a discount for early payoff; this will enhance community values and get you tax free cash back when you refinance. Let’s discuss a good way to do this practically, legally and successfully. Get yourself a great cup of coffee or tea and lets’ get started.
The models we are going to use are the Temporary Land Contract and the Temporary Purchase Money Mortgage (PPM). Both of these options are Seller financing, however appraisers do not give as much weight to a Land Contract for the purpose of an appraisal because they believe private individuals can create all sorts of deals and hidden values. Guess what? They are right. A PPM is also seller financing but could be harder to detect if the seller agrees to form a financial sounding entity name to hold the PPM, like ABC Financial, LLC or ABC Lenders, LLC. So far the appraisers have not objected.
Lets’ say you found a deal that was not listed and the Seller wanted $70,000, but you think the property is worth about $125,000. Additionally, you have some cash to put down on a seller financed transaction. The deal could be structured as follows:
Sales Price: $125,000
Down Payment: $20,000
Land Contract or PPM: $105,000, with a 60-month balloon and a discount of $45,000 if the debt is refinanced and paid off early without defaulting. Early is defined as more than 6 months after closing but 2-3 years before the due date.
The payoff needs to be after a 6 month seasoning period because many lenders may consider short-term Seller financing as a purchase and not a refinance – be sure to find out the lenders criteria. Remember that a built-in cash back at closing is generally NOT ALLOWED on a purchase but can be more easily completed on a refinance.
The discount terms should not be written on the recorded mortgage document (or Land Contract) itself. However, the discount terms can be on the PPM Note or in the original purchase agreement with the language, “this provision shall survive the closing.” This is important because purchase agreement terms last only until the closing, unless specified that they shall survive the closing.
This type of structure not only gets you cash back when you refinance, but it helps the community as well by providing a higher price to help stabilize market values - which also creates a comp for your refi. This structure also gives the Seller a sense of comfort that you are incentivized to be on time and not default; thus, we have a win, win, win situation-- yourself, the community and the Seller.
As stated earlier, the cash back is tax free because you don’t pay taxes on borrowed money!