Understanding The Wraparound Mortgage

Key Takeaways

  • A wraparound mortgage is a type of junior loan or second mortgage.
  • Wraparound financing goes into effect when a buyer makes mortgage payments directly to the seller, who then uses these payments to pay down the original mortgage.
  • Be sure to fully understand the implications, such as the risks and benefits, before negotiating a wraparound mortgage deal.

Real estate investors often find it helpful to have a wide range of financing options on hand; not only do traditional lenders have stringent eligibility requirements, the approval and closing process can sometimes take too long to nab a deal. This is where investors find alternative financing options can prove helpful. One such type of unique financing option is the wraparound mortgage. Have you ever heard of it before? Read on to find out all about how this type of mortgage can fit into an investor’s financing toolkit:

What Is A Wraparound Mortgage?

A wraparound mortgage, commonly referred to as a ‘wrap loan,’ is a category of loan that encompasses the outstanding debt due on a property, plus the amount that covers the new purchase price (hence the phrase ‘wrap around mortgage’). Wraparound mortgages are considered a type of junior loan, or second mortgage, as the loan is taken out while using the same property as collateral.


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Wrap around mortgage

How Does Wraparound Financing Work?

A wrap-around mortgage is one of the many creative real estate financing strategies that an investor can incorporate into their arsenal. Considered one version of seller financing, wraparound mortgages gives buyers an opportunity to make mortgage payments directly to the seller of a property, instead of taking out a conventional mortgage.

In this scenario, the seller will typically extend a junior mortgage (the wraparound loan) to the buyer, which will be used to pay off any outstanding balance on the original mortgage, plus the remaining balance on the purchase price. More specifically, the buyer will make monthly payments to the seller, who will then use the money to make payments on the original mortgage to their lender. The specific wraparound mortgage definition and terms are specified in the form of a secured promissory note. Because it can be tricky to wrap one’s head around the idea of “what is a wraparound loan,” the following is an example:

Mr. Homeowner recently listed his home on the market for $500,000. He still has a remaining balance of $300,000 on his mortgage at five percent interest, making his payments roughly $1,600 per month. Mr. Investor comes along and offers to put $50,000 down. Mr. Homeowner and Mr. Investor agree to finance the remaining $450,000 through a wraparound mortgage at 6 percent. Moving forward, Mr. Investor sends Mr. Homeowner a check for roughly $2,600 per month.

Wraparound Mortgage Risks And Benefits

When considering a wraparound financing deal, or any method of financing for that matter, investors should be sure to measure the pros and cons. For example, when reading the example above, one may have noticed that the seller has a strong incentive to pocket a profit each month through a higher interest rate. However, this still may present a better scenario to many buyers, especially as an alternative to financing through a traditional lender. Read on to learn more about the potential risks and benefits for buyers when using a wrap around mortgage.

Risks

Of course, with any type of investment scenario, there is always a certain level of risk that is associated. Be sure to review the following implications before pursuing a wraparound mortgage deal:

  • Risk of foreclosure if the seller does not use payments towards the original mortgage.
  • The seller has an incentive to charge a higher interest rate to the buyer.
  • In the case of a foreclosure, the payoff of the original mortgage will be prioritized.
  • The seller’s lender can demand repayment in full if the property is sold.

Benefits

The main benefit of a wraparound mortgage is the ability for an investor to purchase property, even if they have poor credit. Wraparound financing is an arrangement made directly between the buyer and the seller, creating a space for negotiable terms and faster decision-making:

  • Option to purchase property even with bad credit.
  • Ability to avoid having to go through a traditional lender.
  • Faster purchase process with negotiable terms.

Summary

A wraparound mortgage is a type of junior loan or secondary mortgage that allows buyers to purchase a property without having to go through a traditional lender. Depending on the terms negotiated directly between the seller and the buyer, the buyer will typically pay a monthly mortgage amount directly to the seller, typically at a higher interest rate than the seller’s original mortgage on the property. This way, the seller is incentivized by the ability to pocket a monthly profit between their original mortgage payment and the wraparound mortgage payment. Buyers are incentivized by the ability to finance a property purchase, even if they would not have been qualified if they were to go through a traditional lender. There are both risks and benefits that both parties should consider before going into a deal.

Have you ever financed a property purchase through a wraparound mortgage? If so, what did you like about it? What did you not like about it? Feel free to share in the comments below:

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Real Estate Investing Strategies
Real Estate Investing Strategies
Real Estate Investing Strategies
Real Estate Investing Strategies
Real Estate Investing Strategies
Real Estate Investing Strategies