You may or may not have heard of this term before but a wraparound mortgage or “wrap” is a form of secondary financing for the purchase of real estate property. The seller/lender extends to the buyer a junior mortgage which wraps around an existing mortgage, typically the bank or the seller of the real property assumes the payment of the existing mortgage and provides the borrower with a new larger loan, usually at a higher interest rate.
This type of loan is frequently used as a method of refinancing a property or financing the purchase of property when an existing mortgage cannot be paid off. The borrower makes the payment to the new lender on the larger loan and the lender makes payments on the original loan.
You may question why would anyone want to do a wraparound mortgage anyway?
A warp is attractive to sellers because they can leverage a lower interest rate on an existing mortgage into a higher yield for themselves. For example, suppose a $100,000.00 mortgage has a 3% rate and the new mortgage of $125,000.00 has a rate of 6%. The lender earns 6% on the $25,000.00, plus the difference between the 3% and 6% on the $100,000.00. The difference in principal amounts and amortization schedules will affect the actual spread made.
The only loans that can be wrapped are assumable loans like FHA and VA loans to qualified purchasers without the permission of the lender. Because wraps are a form of seller financing, this is a creative way to allow buyers to purchase property without qualifying for a loan or paying closing costs. This is an excellent way to get access to property they would typically have to wait months to obtain.
What are the risks or underlying factors that can affect the buyer in a wrap transaction?
The lender/seller accepts a secured promissory note from the buyer for the amount due on the underlying mortgage plus an amount up to the new purchase money balance. The new borrower makes the payments to the seller, who is responsible for making the payments to the underlying mortgage. Should the new purchaser default on those payments, the seller has the right of foreclosure to recapture the subject property.
The problem is if the seller does not make the payments to the underlying mortgage, the new buyer is not protected against foreclosure. This is where hard money loans come into play. Many borrowers who entered wrap transactions; that were not fully aware or informed on the potential consequences of the seller wrap that violates the due-on-sale clause (if it exists). The due-on-sale clause requires that the mortgage be paid in full if the property is sold. This puts the new borrower in a difficult situation and in this scenario; they would benefit from a hard money loan to pay off the existing wrap transaction and save themselves from a possible foreclosure.
Hard money loans can be the solution in many cases, to pay off the existing mortgage holder and secure financing much quicker than through conventional bank financing. The caveat would be to have sufficient equity in the home to pay off the existing mortgage plus the money owed to the seller on the junior loan.
If you have limited credit history and you are in a wrap transaction, a hard money loan can help you pay off the existing mortgage and put the title in your name. Give AMI Lenders, Houston's premier Hard Money lenders a call to discuss any options available to give you the peace of mind you deserve.
In summary, it is our opinion that a Wraparound Mortgage is often too risky for a buyer.
We, therefore, recommend that you discuss the use of a Wraparound Mortgage with a real estate attorney before agreeing to this method of financing.
If you’d like to discuss the pros and cons of Wraparound Mortgages, please contact Jim, Joe or Jeff Emerson at 713-682-4400. Or click here to fill out our online application form. It’s quick, secure and we’ll be in touch with you shortly to discuss your options for a hard money loan in Houston.
