Getting ownership of a property subject to the existing financing is thrilling to the majority of investors — but terror of the fearful “due on sale” clause halts many right in their tracks. As the saying goes, though, there’s nothing to fear but fear itself. On today’s show, Matt tells you why.
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(Voice Over): Epic Real Estate Investing Podcast Episode 28. Without further delay, your guru. Sorry. Your guide to a better life, the real estate investor, Matt Theriault.
Matt Theriault: Hello. Greetings from The Epic Real Estate Investing Podcast. The podcast that will show you how to build wealth through creative real estate investing. That’s what we will discuss today and for a long time to come so you’ll have the option to realistically retire in the next 10 years or less. And enjoy the good life while you’re still young enough to do so.
My name is Matt Theriault, author, full time real estate investor and family man. If this is your first time listening to the show. You want to do two things. First, go back and listen to episode one for the ground rules of the show.
Two, download the Free Real Estate Investing Course – How to Do Deals, No Money Required. You can get that for free at FreeRealEstateInvestingCourse.com. It’s a step-by-step course of where I unveil the mystery around doing deals with no money or credit.
Okay so since opening up The Epic Pro Academy. The majority of the questions that I’ve received via email or our weekly coaching calls have been around subject to investing specifically how to overcome or how to beat the “due on sale” clause.
I guess it shouldn’t surprise me, as you know when I first heard of the subject strategy. My initial thought was like, “oh my God, I’m going to take over the world. This is so cool. You mean I could just go out there and pick up with a house with no money. I don’t have to get a loan either?” I mean that was the coolest concept I’ve ever heard.
Then shortly after processing that thought, I was like, “oh, wow. What seller in their right mind would do a thing like that?” I mean it sounds like a smoking deal for me to buy or to seller sure seems to be getting the short end of the stick on that one.
If you are not familiar with what subject to it, I mean it can be as simple as finding a motivated seller and having them sign the deal over to you while they leave the existing loan in place.
All you have to do is just merely make the payments on the loan. Now on the street this is called “a subject to” transaction. The buyer is taking ownership of the property subject to the existing financing. That’s how it works.
So you, the buyer, now owns the property and the seller still owns the liability of the loan. They’re still responsible for that loan. Again (it’s a) smoking deal for the buyer but what seller in the right mind would do a thing like that. At least that’s what I was thinking.
The key words here are motivated seller. I mean remember our mantra; the centre of every real deal is the seller’s motivation to sell. If you don’t have a motivated seller, I mean you probably don’t have a deal. A real deal is as we defined it as real estate investors, “subject to” is a really simple strategy too.
I mean one of which is very doable but you know like in every strategy it’s not going to be a good fit for every situation like seller financing or lease options or private money or hard money.
Whatever it maybe, “subject to” is just another tool in the toolbox of which enables you to use someone else’s money to transact your real estate.
I mean typically your ideal situation’s “subject to” are, you know, when you cross paths with property owners behind their payments, experiencing pre-foreclosure or owners that have little to no equity in their property. I mean they’d be the most open to a “subject to” transaction probably.
As well know that just about any situation or timing is of the essence, I mean any situation where a quick take over of the property is in order to solve the challenge at hand. I mean that’s also an ideal scenario for “subject to” transaction.
So should you come across a scenario where a “subject to” transaction seems applicable? In order for you to have a chance of making it work, you’ve go to focus on what’s in it for the seller. I mean it’s always what’s in it for the seller. Right?
That actually goes for every deal I suppose but if you want to get what you want, the property “subject to” the existing financing. You’ve got to give the seller what they want. In most cases in a “subject to,” the seller is going to really want peace of mind.
There’s something going on in their lives that keep them up at night so you’re going to be giving them a good night’s sleep. That’s what you’re “subject to” transaction is going to do.
And most of all, you’ll be preserving their credit score as much as possible I suppose. It depends on how much it’s been damaged before you found them but that’s primarily the two benefits. You give them peace of mind. You get to preserve their credit score.
That’s exactly what the “subject to” transaction enables you to give them. Now if they’re concerned about you’re going to follow through or not I mean and actually go make those payments, which is a very common concern that will come up. That typically does come up somewhere in the conversation.
You can simply explain that the risk of losing the equity in the property that time that you have invested and the equity that you are getting, the risk of losing all that will keep you from missing payments. I mean as an investor it’s your best interest to maintain those payments.
This is how you feed your family. You explain to the seller in some fashion like that. Now “subject to” as I’ve mentioned is not going to fit every scenario but what it does it’s not as hard to execute, as it may seem.
As long as you’re clear with regard to what “subject to” is. I mean if you know what it is and you know how to explain to the seller and you know what steps to take to protect you and the seller, you can build your entire business around using the strategy. I don’t see anything wrong with that. I don’t think that’s unrealistic by any means.
In that comment I mentioned as long as you know what steps to take to protect you and the seller from a buyer’s perspective is as good as the strategy sounds. There are some things to be aware of, some things you need to protect yourself from.
One of the ways to protect yourself is to make sure that the seller knows everything that you know about this strategy. I mean it’s in your best interest to essentially educate the seller on what exactly you’d be doing by taking over their property “subject to” holds foreclosure and transparency with the seller is going to keep you from a lot of potential trouble as it typically always will.
But “subject to” hold foreclosure is not going to be the step that you want to accidentally miss or forget. You basically just don’t want to find yourself in the court with the seller accusing of stealing their home.
That’s not the place to be. I mean the investor almost never wins that argument. Unless you’ve covered every base and I mean even then there could be some risks so full disclosure as the best policy.
My motto is just being straight with people and make sure everyone gets what they were promised. That right there should keep you right out of court.
As very cherished real estate investing mentor of mine said, “You want to stand out of court then make sure everybody gets paid.” That was his motto and I’ve kind of adhered to that. I haven’t found myself in court yet. Knock on wood.
Okay. So there are also, there are two more place where you want to be to be very careful. The next is don’t take over a property just because the owner agreed to give it to you.
I mean it could be very exciting especially if it’s the first time for you when a seller signs over the deed to you for nothing. I mean is I hear it’s taken. My caution to you is don’t take the property just because the seller agreed to sign it over to you.
I mean it still has to be a good deal. A good deal defined is a property that meets your criteria and a seller that will meet your terms. You need both parts of the equation to be present for it to be a good deal for you.
I understand that yes you are excited because you found a seller that has met your terms but you still have to confirm that it’s a property that will meet your criteria, specifically that it will meet your minimum deal standards for either your cash goals or your cash flow goals.
Now the biggie that you want to protect yourself from is, this is the big one, you probably one of the most feared yet misunderstood but it’s also the most fascinating subject in real estate investing.
It seems to be the most fascinating. They were once obsessed with this for some reason. It’s the dreaded “do once” sale clause. Now as simple as a subject to transaction can be, it’s this specific clause found in most loan documents today that stops most investors dead in their tracks from moving forward on a “subject to” deal.
Now I’m going to spend the remainder of this podcast dispelling as many myths as possible about “do once” sale clause as I can. I’m also going to give you two strategies, simple and effective strategies, on how to overcome them or how to beat it.
Now some of the myths can be dispelled by simply just understanding the “do once” sale clause origin, understanding its history, where it came form, why it’s there. So where it did come from? Okay. Glad you asked.
The “do once” clause and you’ll sometimes hear it referred to as an acceleration clause. It’s an authority clause in loan documents that gives the lender the right to call the loan due. Regardless of when, regardless of the amount of the outstanding balance, it gives them the right to call that due. It’s just about any reason that they want.
Now many people think the “do once” sale clause applies only when title of the property is transferred away from the borrower’s name. Not true. Most “do once” sale clauses, they paint with a very broad stroke.
They’re getting broader and broader. Just about any modification to title or interest in the property or possessions even can trigger the “do once” sale clause of which can include the subject property no longer being the owner’s primary residence.
I mean just by turning the primary residence into a rental property that can trigger the “do once” sale clause. In some “do once” sale clause and this is crazy but it’s true. It’s worded that even if the owner contemplates a sale or transfer of title. I don’t know how the lender would be able to prove that in court but that’s how it’s worded even if the owner contemplates the sale or transfer title.
If the owner isn’t notify the lender in writing, the lender can accelerate the loan and call a due. Again I don’t know how they approve that but I’ve definitely seen some “do once” sale clauses with that exact verbiage.
I’m drawing your attention to some of these examples to demonstrate that lenders can accelerate a loan in a multitude of scenarios but do they? No. Rarely.
They rarely do. It’s not common practice by any means. It’s not in their best interest. I mean the banks certainly have the right to but typically they just won’t because it’s rarely in their best interest to do so.
So if they rarely do it then why is it there? Well glad you asked. Lenders, they began including these “do once” sale clauses in their loans back in the 70s during a time when interest rates were on a dramatic rise. They’re rapidly increasing.
Instead of taking out new loans I mean just regular Tom, Dick, and Mary home buyer were when they were going to buy a property, they were just assuming the existing loans that were on those homes because the interest rates of those loans were so much lower than the newer loans that if they were going to get new loan.
And lenders then they recognize that this was a problem and they started to insert the “do once” sale clause to protect themselves from their worst competition themselves.
And they decided that they needed this clause to protect their collateral by monitoring and being aware of who was actually living in the property of which is BS.
They don’t care. They just wanted to generate new loans at a higher market interest rates. And to prove that’s the case I mean lenders haven’t been forcing their “do once” sale clauses since the early 80s.
And why haven’t? Because they lose money if they wrote a new loan. The interest rates have been on a steady decline for a very long time and were all time lows right now. They would lose money if they wrote a new loan under those new lower interest rates so they’ve allowed the vast majority of “subject to” in place.
So the “do once” sale clause really is just more of a hedge against the market for lenders than it is to protect their collateral as they’d say, which is actually a good argument that actually makes sense.
They really don’t give a damn. I promise you they don’t give a damn about the property as much as they do bout the extra percentage point or tow they’re getting on the loan on that property. Now homeowners they eventually caught on too. I mean they started fighting back citing it was unfair trade practice. Many homeowners were winning those arguments.
However in 1982, the lenders ultimately won in a Supreme Court was the Federal Savings & Loan Association versus Delaquest in 1982. But what the lenders won though was really nothing more than just the right to enforce the “do once” sale clause of which leads me to dispelling another myth.
Violating the “do once” sale clause is not against the law. It is not illegal. You are not going to jail for violating the clause. Did you hear that realtors? It’s not illegal. I don’t care what your broker has told you.
You cannot confuse criminal liability with civil liability. They’re very different. It is not against the law and you are not going to jail if you violate the “do once” sale clause.
Because in order for something to be illegal, there must be a violation of an actual law. There is no federal or state law stating it’s a crime when violating the “do once” sale clause containing your loan docs.
I mean the worst thing, the worst thing that can happen is that the lender exercises their right under the “do once” sale clause and just takes the property back. And even then they can’t do it inside of 30 days. Hint for the wholesalers out there.
And even after the 30 days of the property is occupied, the lender will have to abide by a normal foreclosure proceedings, which would be enough time for most fix and flippers to execute their strategy. Hint to my fix and flippers out there.
So what about the long term investors though? I mean the big question is are you willing to take over a property subject to with the risk of the lender catching on, with the risk of the lender busting you? That’s a really a question that you can answer. I mean you know your situation better than anyone else.
But if the answer is yes meaning you are willing to take the risk. I used the word “risk” very loosely but if you are willing to take that on, you have two real viable options on how to approach it. At least the two that I know of and the two they are the same to that have worked for me.
I mean you can either can go in the back door or try to sneak in or you can go on the front door to scream, Hey honey. I’m home.” so let’s discuss the back door first. Okay?
It’s the old trusted assignment trait. All right. There’s a loophole that many investors exploit. The Regan administration back in 1982 enacted the Garn–St. Germain Depository Institutions Act of which was to revitalize the housing industry by ensuring the availability of plenty of money to loan for the purpose of home purchases. It’s probably very similar to something that’s going to happen soon. It’s just my guess.
And within that Act, there’s a significant consumer benefit that included, it allowed anyone to place real estate in their won trust without triggering the “due on” sale clause.
Now depending on how pull you want to get, I’m not a real pull person but depending it’s not too difficult to see. I mean in my opinion it was a loophole created for the wealthy as wealth preservation and protection instrument.
The benefit it also allowed the transfer of property to heirs and family members freely without triggering the “due on” sale clause. I mean basically this change was so that the rich didn’t have to play by the same rules as the common folk.
Well enter the educated real estate investor armed with the land trust. Now if you don’t know what a land trust, it’s an agreement of which one party, the trustee, holds ownership of a piece of real estate or real property for the benefit of another party, the beneficiary.
Okay. Paying attention? Are you seeing an opportunity in this land trust yet? You see a transfer of real estate using a land trust is an exempt per the Garn-St. Germain Act. Get it?
Okay. I’ll beak it down for you in three simple steps. Everybody likes step by step. Okay. You come across your real deal. Right?
You’ve got a property that meets your criteria and you got a seller that will meet your terms. And your terms being that you want the property subject to the existing the financing. Good to go. Everything is in place.
So step one, your motivated seller signs a land trust naming you as the trustee. The seller is the beneficiary. Following me? Step two, your motivated seller transfers title to you, the trustee. Thank you Garn-St. Germain Act.
As per this action, there is no violation of the “due on” sale clause. The banks can’t do anything about it. The transfer to a trust is exempt. Excited yet? I thought so.
Step three; the motivated seller quietly assigns their interest in the trust to you. Quietly meaning they don’t record it publicly. Very similar to transferring stock in a corporation. So sense this assignment isn’t recorded. There is no public record of it.
The motivated seller then moves up and goes on about their business and then you or your tenant get to move in. Tada! See how simple that is. You are now the beneficiary of the trust. The beneficiary of the trust that owns the property.
Now the trustee also you, all there’s left to do is to make the existing loan payments and you lived happily ever after. Right? Well I wish it were that simple. It’s not that cut and dry. I mean you must know that when the motivated seller assigned their interest on the trust. That indeed triggered the “due on” sale clause.
But how about the lender ever knows? It’s not recorded publicly not public information. So how would the lender ever know? Okay? Typically there are only three ways of which the lender will get wise to the transfer.
First, a change of the name on the deed will definitely let the lender know. However the name on the deed is a trust, a trust of which if he did it right then it bares the motivated seller’s name. So if Joe Smith was the name of your seller. It would be the Joe smith of trust. Okay?
Or you can do with the property address if it’s 123 Maine Street; you can be the 123 Maine Street Trust. You see by naming the trust with something related to the property, it isn’t even going to raise an eyebrow, as it’s a very common estate practice. It happens all the time. It happens all the time everyday in non-subject to transactions. There’s nothing out of the ordinary here for the lender to even investigate.
Second, another way the lender typically finds out is when they receive a mortgage check from a name different from what the name they’re used to seeing but that’s really not likely as thank officers. They’re so far and move form the payment process in the administration department.
You know I actually as an extra precaution, you know there’s another way to make sure that doesn’t happen. Just open up a new checking account in the name of the trust and send checks from the trust.
I mean not even the officers would investigate if they saw the name of the trust on the check. I mean everything would line up; there wouldn’t even be a hint of suspicion. Now the third way to lend your mike wise is the most common way.
They see it change a beneficiary on the hazard insurance. You see when you change the name of the insurance beneficiary; the lender receives a copy of the change also.
But if title went into a land trust, the new beneficiary in the insurance policy is the trustee of the land trust. And that would be you. So you’ve got your insurance without having to change the name of the beneficiary. Again this is a very common estate planning practice of which the lender sees on a daily basis and has no reason to raise an eyebrow.
So there. If you know what you’re doing, it’s very easy to overcome that “due on” sale clause. There’s not much risk in the “due on” sale clause at all. However, there is still a risk. Okay? So that’s sneaking in the back door.
Let’s try the front door approach now of which I’ve done also. This is probably the way I do it most often now. Let’s imagine from the beginning the same scenario with our motivated seller. As son as you get an agreement from the seller allowing you to take the property subject to the existing financing.
Turn the entire file over to a third party servicing company and let them do the rest. Let them do everything. Let them communicate with the seller. Let them communicate with the bank. I mean completely remove yourself from all parts of that conversation.
It’s kind of like when two lawyers talk. When lawyers talk lawyers, they speak the same language. They respect each other’s position. They understand what each other is going through and they just pass paperwork back and forth.
There are no emotions involved. It’s just, it’s an everyday thing. It’s no big deal. That’s how it works when note-servicing companies are speaking with other note servicing companies. They speak the same language. They understand how it works. They’re just passing paperwork back and forth.
So once that’s done, once they’ve completed their duties, all there is for you to do. I mean whatever you do, just make the payments actually in both scenarios. Make the payments. Do not miss a payment.
I mean you’ve put in all that work. You got a smoking deal. You stand to make a great profit. Don’t mess it up by missing or even being late with a payment.
Don’t give the bank or the lender any reason to call you. That’s one of your ultimate lines of defence. You know because in today’s marketplace, in today’s real estate market with the amount of foreclosure, the amount of pre-foreclosure, the amount of short sales, and all the distressed homeowners and the loan modifications, and all that out of the ordinary stuff of where the banks are losing money.
Do you think they would even have the manpower where they would let go of the manpower to go on release their accounts that are in good standing? No way. (laughing)
In my opinion, we got another four to five years of this kind of environment depending on what source you listen to I guess but I believe we got another to four to five years of lenders and banks to process their delinquent accounts. They’re not even have time to investigate the accounts that are being paid.
All right. So maybe you’re thinking, okay. This subject two things are all fine and dandy. Right? But isn’t this unethical. I mean, Matt, you settle a lot of things that are like you’re keeping secrets. Isn’t this fraudulent?
Well let me ask you this. If they were unethical or if it were fraudulent or immoral, whatever words you want to use, why was so many different states in their standard state realtors association purchase agreements and paperwork? Why would they include subject to provisions? Why would they include subject to as financing options all in the contract?
California has it. Utah has it. New York has it. I mean those are the ones that I know for sure but I’m pretty sure all states do but I know they do for sure. Further, the state bar associations have had no problem with lawyers aiding their clients in concealing these types of property transfers using the land trust examples I just gave you. I cited the court cases for you to prove it but you might get the impression I’m much smarter than I am.
Okay. I’ll give you this example. In Alaska Bar Association Ethics Opinion 8-2, “the committee declared circumventing a contract term under these circumstances is not fraud or fraudulent conduct. The attorney’s participation would amount to no more than concealing a breach of contract.”
Breaching a contract is not a crime. See again we got the difference here between criminal liability and civil liability. But the Alaska Bar Association didn’t even want to bother with it.
That’s how insignificant it was to them. The Illinois Bar is also on record concluding that the breach of the contract of sale in counter version of the “due on” sale clause is not a crime.
You can find the same type of record in the Virginia Bar. They had the same conclusion and opinion 471. So if it’s not illegal, unethical, or fraudulent for an attorney or a broker to sneak in the bar door. It is not for you either.
In ethics opinion number 96-2, the Alaska Bar actually ruled that an attorney has no duty to disclose the existence or the implications of a “due on” sale clause two parties to transaction of whom he was not representing.
They said he didn’t have the duty to disclose of which I think that might be going too far especially in a subject to transaction as I’ve mentioned in the beginning.
I mean make sure your motivated seller is educated or at least is educated as you are now on the matter of transferring title subject to the existing financing. Full disclosure is always best. Yes. That attorney might have gotten away with that.
The Alaska Bar might have ruled that away but there’s no reason to take it that far. Full disclosure is always best either way though you are not going to jail. The most you got to lose is the time you invested and the money you put in the deal of which brings me to best practices when investing subject to.
I mean it’s an ideal strategy for short term investing like wholesaling and fix and flipping. I mean kind of like a bridge loan so to speak. If you have that situation, go for it. Just do it. I mean if you’re confident you can get in and out in less than six months. Make it happen.
Now if you’re subject to investment is going to be a long term hold type play. I would recommend not investing anymore in the deal than you are willing to lose. I mean if you give a motivated seller say $50,000 of a down payment to take over his property subject to the existing financing.
And then two years down the road, interest rates take a big jump up. It’s very possible that banks might start investigating their lower interest rate loans. Not likely but possible and it’s not like the interest rates are going to skyrocket overnight.
But in the event that they did, I mean if they can’t sell the property right away. They could accelerate the loan and take the property back of which say, you know, you’d say goodbye to your $50,000.
So if it’s a short-term strategy, go for it. If it’s long-term strategy, just be careful of how much you put into the deal upfront. You do that. Hey, there’s really nothing to be afraid of. The “due on” sale clause could essentially be your friend.
It could be your secret weapon because it scares so many other investors away but now you know how it works. You know the history; you know it’s not illegal.
It’s not unethical. It’s not fraudulent. And the likelihood of anything going wrong as long as you do everything right and you make your payments is very, very slim.
So hopefully I’ve cleared the air a bit and dispel some myths around how to invest subject to and overcome and beat the “due on” sale clause. I mean it’s an awesome strategy to have in your tool belt but it does you no good unless you actually use it.
So now I’m assuming you are now armed with enough information about subject to and “due on” sale clauses that you can make an educated decision for yourself whether this strategy is for you or not.
Now if I’ve left you with some questions or if you have questions about anything real estate related, I’m inviting, I’m extending a personal invitation to attend the Epic Pro Academy coaching call on Monday, March 5 at 7pm. That’s Pacific Standard Time. Monday, March 5th at 7pm Pacific Standard Time.
This is a private call. It’s not open to the public. It’s for Epic Pro Academy members only but if you’d like to attend. I’d be glad to put you on my guest list then you can be personal guest. Okay?
So go and register at EpicProCoaching.com. EpicProCoaching.com. You can get the details of the call there. You can attend either via phone or online via Webcast. That’s at EpicProCoaching.com. You can be personal guest.
Okay. That’s all I’ve got for you today. So until next time. As a very wise person once said, “education is not the filling of a pail but the lighting of a fire.” To your success, I am Matt Theriault. Living the dream.
(Voice Over): Thank you for spending this time with Matt Theriault and the Epic Real Estate Investing podcast. When you have time, stop by iTunes to leave your comments and let us know what you think of this show.
And if you haven’t done so already, get started investing today by visiting FreeRealEstateInvestingCourse.com to access Matt’s free course on how to deals, no money required. Until next time. To your success, to your success, to your success.[End of Transcript]