YOUR MORTGAGE : Seller of Home Wants a Wraparound Loan

QUESTION: We are considering buying a home that has an assumable 7.5% interest rate VA mortgage. As we are making a low down payment and asking the seller to carry back a large second mortgage, she wants to have us make the payment to her on a “wraparound mortgage” and she will use part of our payment to pay the first mortgage. Is this dangerous for us?

ANSWER: No. Your home seller is being very smart. Carrying back a wraparound mortgage is better than a second mortgage. To illustrate, suppose you buy a $100,000-home with a $10,000 down payment and it has an existing $50,000 assumable VA mortgage. The seller could either carry back a $40,000 second mortgage or a $90,000 wraparound all-inclusive mortgage. If the seller charges you 9% interest on the $90,000, she will earn 9% on her $40,000 net loan to you plus a 1.5% differential on the underlying $50,000.

More important, she will be sure you are not in default on the first mortgage, because she will use part of your payment to pay the first loan. To make certain she keeps up the payments on the underlying VA mortgage, ask her to send you a copy of her canceled check or other proof each month.

Adjustables Have Lost Their Advantage

Q: My husband and I are in the process of getting a mortgage to acquire the home we are buying. But we are getting conflicting advice from mortgage lenders as to whether we should get a fixed- or adjustable-rate mortgage.

One S&L; was so eager to make us an adjustable-rate mortgage it approved our loan in about 20 minutes, subject to the appraisal. But we have adequate income to get a fixed-rate loan with which we feel more comfortable. It seems to me the adjustable-rate mortgages are just too risky and too expensive. What do you advise?

A: The adjustable-rate mortgages have backfired on lenders. Their big problem is the two indexes used to adjust interest rates, the Cost of Funds Index and the Treasury Bill Index, are too high, compared to fixed-rate mortgages.

The result is that most home buyers, like you, prefer fixed-interest rate loans because there are no uncertainties. The adjustable-rate mortgages shift the interest rate risk to the borrower, but without any significant advantages.

When ARM loans were created, fixed-interest rate loans were very expensive. The ARMs looked good because their interest rate was at least 2% below fixed-rate mortgages. But today the difference is less than 1%, so ARM borrowers receive no benefit for the risk that ARM interest rates might increase. You would be wise to take the fixed-rate mortgage. Not only will you sleep better, but you won’t run the risk of having to pay higher monthly mortgage payments.

High Yields Available on Discount Mortgages

Q: I especially enjoyed your recent comments about the benefits of investing in discounted mortgages for their high yields of 20% or higher. As a retiree with lots of time on my hands, I think these mortgages would be the perfect investment for me. I am no longer interested in owning real estate and dealing with tenants.

Rental properties have earned me several million dollars in profit, but I am tired of being a landlord. However, I wonder how the usury laws apply to these mortgages? Also, where can I buy these mortgages? Your comments open up a whole new world of investment opportunties for me at age 73.

A: Discounted mortgages are the ideal high-yield investment for retirees who want to actively manage their portfolios. I recall a family friend who continued to invest in second mortgages until almost the day he died at age 85.

If the mortgage was not usurious when the loan was originated, it does not violate the state usury law when it is sold to an investor such as you at a discount. For example, suppose I sold my home and carried back a second mortgage for the buyer at 8% interest, which does not violate state usury laws. But because I need cash, I agree to sell this mortgage to you at a discount which will yield 20% on your invested dollars. Since the borrower continues making regular monthly payments at 8% interest, there is no usury law violation even in states with low usury limits.

How to Finance a Difficult Property

Q: I own a small shopping center that is 24 years old. It needs renovation and I would like to refinance it to pay for the improvements. The insurance company that holds the present mortgage says the loan amount is too small to interest them. I have talked with several local S&Ls; and banks, but they don’t want to make a loan on this type of older commercial property. Another problem is there are two vacancies out of 16 stores, so several lenders have told me to come back after the renovation is completed and the vacancies are filled. Any ideas how to finance this project?

A: Special properties like yours can be difficult to finance. Contact mortgage brokers and mortgage bankers in your town or perhaps a nearby larger city.

The best mortgage brokers and mortgage bankers can finance virtually any property. But be careful. While 99% of these people are reputable and honest, you must be on guard against ones who promise you everything and deliver nothing.

When you find a mortgage broker or mortgage banker who is interested in your project, be wary about paying any advance fee other than for an appraisal.

As you probably know, mortgage brokers and mortgage bankers are middlemen between borrowers and lenders. They usually have contacts with obscure lenders, often from out of state, who can finance special situations like yours. However, since your project is unique you will probably pay a hefty interest rate, so don’t expect a bargain.

LIBOR Mortgages Good for Lenders

Q: One S&L; in our town is offering home mortgages with the adjustable-interest rate tied to the LIBOR index. Although I am a real estate broker I have never heard of this index. The adjustable mortgage on my home is tied to the lender’s cost of funds index and I have been very pleased with the small up and down changes in my monthly payments. The loan officer at the S&L; didn’t seem to know much about the LIBOR rate. What do you think of it for home buyers?

A: The LIBOR (London Interbank Rate) is good for lenders and is being actively pushed by secondary-mortgage market buyer Fannie Mae. In other words, it is good for lenders.

The LIBOR rate is manipulated by banks and does not vary independently, as does the cost of funds index or the Treasury bill index. Fannie Mae is promoting the LIBOR index because it is trying to sell securities in European and worldwide money markets, which like the LIBOR index. Not only is it hard to find and follow, but the LIBOR rate is definitely not pro-consumer. I do not recommend it.

Magic Words Dictate Early Prepayment

Q: I have a second mortgage of about $21,000 on my house, which I want to pay off. When I sent the lender my check, she returned it and said she does not want my money until the loan comes due in eight years. She said she is very happy collecting the interest. Can I force her to accept my loan payoff?

A: Read your promissory note. After the amount of the monthly payment do you find the magic words or more? If you don’t, you may be locked in without the right to prepay your second mortgage.

However, many states have laws allowing prepayment of home loans even if the words or more are not included in the promissory note. Check with a local real estate attorney to see if your state has a law allowing prepayment on home loans.

Questions and comments may be sent to the Real Estate Editor, Los Angeles Times, Times Mirror Square, Los Angeles 90053.