On January 10, 2014, private seller financing came under the control of the Consumer Financial Protection Bureau (CFPB). Congressmen Dodd and Frank in their zeal to protect the public from unscrupulous lenders have burdened every Real Estate Investor who engages in Seller Financing with new regulations that will ultimately feel like 10 additional gravities weighing upon their investing. If you are not aware of this legislation, it essentially removes the Real Estate Investors’ ability to self-finance the sale of real estate without becoming a licensed mortgage loan originator. Here is how it works.
Dodd-Frank is definitely going to have a significant impact on Real Estate Investors who use Seller Finance. If you finance more than 3 homes in a year you could fall into the mortgage originator category, which requires licensing with your state. If this occurs, you will need to ensure that your buyers/ borrowers have the ability to repay the loan i.e., the borrower cannot be using more than 43% of their income to service all of their debts including your loan and all points and fees cannot exceed 3 points. Even if you are willing to limit your Seller Finance to 3 homes a year, you cannot offer a loan term of less than 30 years. It will be very difficult to find Note Buyers who are willing to tie up their money for potentially 30 years unless you are willing to discount your notes to the point you lose money.
However, all is not bleak. Dodd-Frank only applies to property that includes a dwelling that the buyer is going to reside in. There are no new rules that affect seller financed transactions for vacant land, commercial property, multi-family, and single-family residence where the buyer does not plan to move into the property. (When dealing with an investor who does not plan to move into the property it would be prudent to obtain a written declaration from him stating as much to protect yourself from possible future claims). If you are wondering why this is important consider the penalties for violating Dodd-Frank are onerous.
Case in point is the fact the CFPB is run by Richard Cordray, former Ohio State Attorney General who is well known for his strong consumer protection stance. As Ohio State’s Attorney General, Mr. Cordray was very litigious when it came to allegations of wrongdoing involving the consumer. His atmosphere of enforcement is already apparent with the release of a four digit phone code consumers can use to access the CFPB for purposes of filing complaints. If you are found in violation of Dodd-Frank the penalties can range from double statutory damages to an affirmative defense to foreclosure actions i.e., you won’t be getting the property back if your borrower stops paying the mortgage. Dodd-Frank is ultimately going to give your borrowers leverage over you if you are not in compliance. Thus, as an investor you must be aware of its reach and follow the rules or else consider becoming a licensed mortgage loan originator.
Here is a recap of some of Dodd-Frank’s restrictions on private Seller Financing of residential property:
- The seller cannot have constructed the home.
- The loan must be fully amortizing. No balloon payments are allowed.
- The seller must determine the buyer has reasonable ability to repay the loan.
- The loan must have a fixed interest rate for a minimum of five years.
- The loan must meet criteria identified by the Federal Reserve Board i.e., the rules will continue to change on you.
For further clarification and interpretation, please contact the Consumer Financial Protection Bureau at 202-435-7700, or via Email at CFPB_reginquiries@cfpb.gov .
