Owner Financing in Colorado

“Traditional” Seller-Financed Transaction

The so-called traditional seller-financed deal involves a seller who owns a property free and clear (without a mortgage) and is willing to carry the buyer with a small down payment.  At closing, title transfers to the buyer and the buyer signs a note to the seller for the balance of the purchase price.  The buyer also signs a deed of trust (mortgage) to the seller, which is recorded as a lien agains the the property.  Thus, the buyer is the owner of the property, and the seller is a lien holder (lender).

If the buyer defaults on the payments required on the note, the seller must file a foreclosure proceeding to get the property back.  This is done through a Public Trustee foreclosure, which is essentially a non-judicial process.  The process of foreclosure will usually take about 4 months.  After the foreclosure, the seller will also have to evict the occupant of the property in a regular FED (forcible entry and detainer) proceeding in County court.

Seller Carry Second

With a seller-carry second, the buyer gets a loan from a third party (usually a bank or mortgage company) for most of the purchase price.  The buyer will have title to the property, and the third party will have a note and deed of trust on the property as a first lien.  The buyer will execute a note and deed of trust to the seller for a small amount (usually 10-20% of the sales price), which will be a second lien on the property.

If the buyer defaults on the seller’s note, the seller would have to foreclose and pay off the first mortgage in front of his lien.

Wraparound AITD

A wraparound AITD (all inclusive trust deed) is where the seller deeds the property subject to the existing loan and the buyer signs a note to the seller secured by a deed of trust on the property.  The deed of trust is second (junior) to the existing deed of trust lien.  It is called “all inclusive” because the payment is for the ENTIRE amount.  For example, if the sales price is $100,000 and the seller owes $80,000, the buyer may put $10,000 down and sign a note for $90,000.  The seller collects on the $90,000 note (with principal and interest) and continues to pay his underlying loan, pocketing the monthly spread.

Sometimes the wrap is a “mirror”, that is, the all-inclusive note is the same as the underlying note.  In the above example, the seller pays $20,000 down and signs a note that mirrors the balance and terms of the seller’s underlying $80,000 loan.

If the buyer defaults on the note, the seller must foreclose the property through a Public Trustee auction.

Wraparound Land Contract.  

A wraparound installment land contract (aka “contract for deed”) is the same as a wraparound AITD except the title remains in the seller’s name until the debt is paid in full.  Typically the seller signs a deed that is placed in escrow with a title company to ensure that the buyer will get title if the seller disappears.

Upon default of the land contract, the legal process for the seller getting the property back is unclear under Colorado law.  The court could allow a forfeiture of equity and permit an eviction by the seller, or the court could require a JUDICIAL foreclosure (longer and more expensive process than a Public Trustee foreclosure).  The court’s decision is based on equitable factors, that is what is fair in the situation considering the buyer’s equity (size of down payment, accumulated equity, improvements, etc).

Lease/Option

A lease/option (aka “lease purchase”) is simply a lease with the option to purchase.  It is not a sale, like a wraparound land contract, although a long-term lease/option can begin to look like a land contract, hence make it more difficult to evict the tenant if he defaults on payments.  In rare cases, a court may treat a lease/option similar to a land contract, requiring the landlord to file a judicial foreclosure as if the transaction were a sale.  A properly constructed lease/option transaction will help avoid this characterization.

Safe Act and Dodd Frank The Colorado SAFE Act requires that a seller use a licensed mortgage loan originator to “underwrite” the loan, that is, qualify the buyer and prepare various disclosures.  Colorado law allows up to three owner financed transactions a year by a seller without having to comply with this requirement.  Investors who sell many properties will need to become licensed mortgage loan originators or hire one for their deals.

The Dodd Frank law is a federal statute that requires sellers to qualify buyers for owner-carry deals.  This includes wraps and contracts for deeds, but not lease/options (unless the lease/option is considered a “sale”, which can be the case for a long-term lease/option with a declining purchase price option). Dodd Frank only applies to transactions where the buyer will live in the property as their primary residence, not purchases by investors. Dodd Frank essentially gives one “free pass” a year to sellers who are not corporate entities, as in the case of someone selling their primary residence. This exemption puts minimal burdens on the seller and does not require the use of a licensed mortgage loan originator.

Corporate entities and/or investors who sell multiple properties a year (including mobile homes) must follow strict processing and documentation guidelines or face civil damages from a buyer for non-compliance.  Further, the seller must use a licensed mortgage loan originator if it does more than three deals a year.

Conclusion

Sellers and brokers engaging in owner-financed deals should seek legal counsel to discuss the implications of Dodd Frank and SAFE Act on their transactions.