What Is a Wraparound Mortgage?
A wraparound mortgage, often known in the real estate world, is a creative form of seller financing. It is an agreement where the seller uses their current mortgage as the base for a new loan to sell the property. This can be beneficial for buyers who may not qualify for a traditional mortgage.
Understanding Wraparound Mortgages
In a wraparound mortgage, the seller remains responsible for the original mortgage while the buyer makes payments to the seller rather than to a bank. The seller then uses these payments to pay off the original mortgage. The terms of the wraparound mortgage will usually include a higher interest rate than the original loan, which allows the seller to make a profit.
How Does It Relate to Financial Factoring?
While not directly related to financial factoring, understanding wraparound mortgages can offer insights into creative financing methods. Financial factoring typically involves a business selling its invoices to a third party to secure immediate cash flow. Similarly, a wraparound mortgage is a creative solution aimed at facilitating financing where traditional methods may not be available or preferable.
Benefits of a Wraparound Mortgage
For sellers, it may lead to a quicker sale due to the less stringent financing for buyers. Also, sellers can potentially earn a profit on the interest rate spread between the old mortgage and the wraparound mortgage. For buyers, it allows access to a mortgage when they might not otherwise qualify and generally offers a simpler, faster transaction.
Risks Involved
Despite the advantages, there are risks associated with a wraparound mortgage. There's a risk for sellers if the buyer defaults since the seller is still ultimately responsible for the original mortgage. For buyers, there's the risk that if the seller does not make the mortgage payments, the bank may foreclose on the property.
Wraparound Mortgage Example
Imagine a seller with an existing mortgage of $100,000 at a 4% interest rate. They offer a wraparound mortgage to a buyer for $150,000 at a 6% interest rate. The buyer pays the seller, and the seller continues to pay the original $100,000 mortgage while earning the interest difference on the wraparound mortgage amount.
