In recent years, some lenders have been placing “seasoning” requirements on loan transactions. This has caused some grief to investors that do “sandwich” lease options.
[Note: A “sandwich” lease option is an arrangement where an investor leases a property with an option to buy from a homeowner, then subleases the property to a third party with an option to buy; the investor helps the tenant obtain a loan, then exercises his option to buy from the owner and simultaneously resells it to the tenant in a double-closing.]
Some lenders are afraid to fund the second part of a double-closing because of the possibility that the tenant/buyer’s purchase price is inflated. The lenders are acting mostly out of irrational fear because of recent barrage of real estate scams.
Property flipping scams
There has been a lot of negative press and misinformation lately about double-closings. People have been indicted recently under what the press has called “Property Flipping Scams.” Uninformed lenders, real estate agents, and title companies will tell you that double-closings are now illegal. In fact, they are nothing of the sort.
The so-called property flipping schemes work as follows…
Unscrupulous investors buy cheap, run-down properties in mostly low-income neighborhoods. They do shoddy renovations to the properties and sell them to unsophisticated buyers at inflated prices. In most cases, the investor, appraiser, and mortgage broker conspire by submitting fraudulent loan documents and a bogus appraisal.
The end result is a buyer that paid too much for a house and cannot afford the loan. Since many of these loans are insured by the Federal Housing Authority (FHA), the Senate has held hearings to investigate this practice.
Despite the negative press, neither double-closings, nor flipping are illegal. The activities described above simply amount to loan fraud, nothing more.
Newspapers have inappropriately reported the activity as illegal “property flipping,” rather than simply “loan fraud.” As a result of this mislabel, some lenders have placed “seasoning” requirements on the seller’s ownership. If the seller has not owned the property for at least twelve months, the lender will assume that the deal is fishy and refuse to fund the retailer’s loan.
If you stay in control of the loan process and steer your buyers to a mortgage company that doesn’t have a hang-up with double-closings, then lender seasoning isn’t an issue.
Two possible solutions
If your tenant/buyer has found a lender that is really stuck on the “seasoning” issue, you have two options: (1) sell your option to the tenant, or (2) have the owner buy you out of the deal.
If you sell your option the your subtenant, just assign your option to the tenant and let him close directly with the seller. From a tax standpoint, you fare better by selling the option, since it qualifies for long-term capital gains treatment.
However, the tenant/buyer may not have enough cash to pay you the difference between your option price with the owner and his option price with you. You need to trust that the parties involved will pay you at closing. (That’s a lot to trust!)
The other way to solve your problem is to approach the seller and ask him to buy you out of the deal. “Buying you out” means that the seller is going to pay you to cancel the lease option agreement so that the owner can enter into a purchase contract directly with your subtenant.
It would be best if the seller paid you in cash before he closed with your subtenant. If the owner wants to wait until the subtenant closes the sale with him, you still have protection if you have a performance mortgage recorded against the property.