It is sometimes advantageous for a seller to finance the sale of their own residential property. There are both Texas and Federal laws which may apply to financing the sale, however. The Federal Dodd-Frank Act, which requires “loan originators” to be licensed, applies only to consumer buyers, so loans secured by vacant land, commercial properties, rental properties or properties used for investment purposes are not affected by those provisions. Further, it does not apply to “non-consumer” purchasers, such as a corporation, LLC or partnership, even if the property is a residence. But if an owner sells a residence to a consumer purchaser, that seller must be a licensed lender UNLESS they fall into an exception. The exceptions are:
1. A natural person, estate or trust must be the seller, and only provide financing for one property in a twelve-month period, and the seller must own the property being sold and financed. This exception is not available to a contractor building the house. Further, the financing must not have negative amortization, but it can have a balloon payment. For a balloon due date, at least a two-year term is required, but many suggest five years as a “safer” term (the law is not specific on the term). The interest rate must be fixed, or the loan may have an adjustable rate, adjusting no more often than every five years and be tied to a recognized index. The Consumer Finance Protection Board (“CFPB”) has issued an interpretation that limits of two percent increase per change, with a total change limited to six percent over the life of the loan, is a “safe harbor” and deemed reasonable.
2. A natural person, estate, trust, OR an entity (corporation, LLC, partnership) may fall within the second exception, which provides that the lender can finance up to three properties in a twelve month period. The lender must own the property being sold and financed, but was not the contractor building the house. No balloon payment may be required—the loan must fully amortize (be completely paid) during the stated term of the loan, and the interest rate must have a fixed rate or an adjustable rate that adjusts no more often than every five years and is tied to a recognized index, and have limits on the increase in the rate, both each adjustment period and over the life of the loan, as in exception 1. Last, under exception 2, the seller is required to, in good faith, determine that the buyer has the reasonable ability to pay the loan. While documentation as to that determination is not required, a seller/lender should keep records of proof of income and assets, employment records, debts (both mortgage related, such as mortgage payments, taxes and insurance, and non-mortgage related payments), debt-to-income ratio and credit history.
The Dodd-Frank Act is something of a moving target. The CFPB has the authority to “interpret” the Act and has done so repeatedly. For example, the “safe harbor” provisions are based on CFPB interpretations, and all interpretations are subject to change.
Texas also has a law governing seller financing, the S.A.F.E. Act (“Secure and Fair Enforcement for Mortgage Licensing Act”). In many respects, it is similar to Dodd-Frank, but does have differences. While the original Act exempted an individual who sold and financed his own residence (or a lot intended for a residence), a subsequent amendment exempts no more than five residential loans in any twelve month period. Financing sales to an investor are not covered by the S.A.F.E. Act.
Questions? Feel free to call or email for additional information on this or any other issue.
Prepared by J. David Carpenter, Vice-President and General Counsel, Home Abstract and Title Company. DavidC@homeabstract.com; 254.715.8461