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What is a Wrap Around Mortgage?

Wrap Notes transcribed from Rick Guerra – Guerra Days Law Group Real Estate Attorney

“Houston Real Estate Attorney Rick Guerra discusses what a wraparound mortgage is in the state of Texas, and how it can be leveraged within a Owner Financing transaction between the buyer and seller.

Wrap around transactions are both commonly referred to as wrap notes, wrap mortgages, or sometimes they’re just simple called wraps. They’re a type of owner financing transaction that is recognized by Texas law. They are generally used in situations where a buyer does not have strong enough credit to purchase real estate through traditional forms of financing.

Use of wrap notes allows sellers to provide financing for buyers typically at a higher rate of interest than when the seller purchased the property. This type of transaction allows a seller to make profit not only on the sales price, but also it allows them to markup the interest from what they are paying their bank. If done correctly, wrap notes can really be a win-win situation for everybody involved.

Let’s use an illustration that hopefully makes it easier to understand wrap notes process:

Jill purchases a house, her dream house, from a bank, and Jill’s credit is fairly solid. Jill signs up or purchases the house for $1,000 a month at a 4% interest rate. Jill lives in the home for several years and then abruptly needs to leave town due to her job. Jill’s friend, Jack, is interested in purchasing the property. However, Jack’s credit is not as strong as Jill’s. Jack is not able to go to a bank for traditional financing—he just won’t qualify. So, Jack and Jill discuss the purchase of Jill’s property and they’re able to reach an agreement.

Jack is going to purchase the property from Jill for $25,0000 more than Jill purchased it for. That’s going to be Jill’s profit on the purchase. In addition to the profit on the sale’s price, because of Jack’s credit, Jill is going to require 7% interest. While she only pays her bank 4% interest. So in this example, just to use round math, Jack is going to pay Jill $1,200, Jill is then going to turn around and pay her bank $1,000 month, and therefore Jill keeps the difference on a monthly basis of $200. This $200 will eventually include the $25,000 profit and then the markup and the interest rate. As you can see, this is a win-win for Jill—she is making a profit of $200 a month; and this is a win-win situation for Jack as he’s able to purchase a home he would not ordinarily have been able to purchase.

Well this is obviously a very brief and overly simplistic example of how wraparound transactions can benefit everyone involved. I can’t stress enough that using these types of transactions can also be very dangerous to everyone involved if they’re not set up properly. If you are interested in exploring this type of owner financing as either a seller or borrower, you really need to get with a competent attorney that handles these types of transactions regularly. This is the only way that you can ensure that the transaction will be done correctly. There are simply too many variables to try this type of transaction on your own. We look forward to having you visit our digital legal library for more short and informative video clips such as this one. In the meantime, good luck.”