House seller as a lender

Houses these days are often sold to a buyer with a small down payment, a large bank loan, and an IOU for the difference. To sell a house the seller is willing to accept part of the purchase price in the form of a promise to pay. In theory, there is no legal requirement that a ''deed of trust'' be used. A personal IOU does the job.

In this case, the seller is actually a lender as well, lending part of the purchase price to the buyer. A deed of trust, rather than an IOU, protects the seller the same way the lending institution is protected.

It is worthwhile to see just how it works.

The buyer, the person borrowing money from an institution and from the seller , is known as the ''trustor.'' The lender to whom the monthly payments will flow is called the beneficiary of the trust deed, because it is the lender who will receive the cash benefits.

The actual deed of trust is held by a neutral third party, known as the trustee.

When the deal is signed, the trustee is given legal title to the property. Then when the sums have been repaid, the trustee grants legal title to the trustor. This is known as a reconveyance, because the title that was conveyed to the trustee originally has been relinquished, or reconveyed, to the trustor.

If the trustor does not make the payments as promised, the role of the trustee is somewhat different.

The trustee, after providing the required notices to the trustor and to the general public, can sell the title to the property to the higher bidder at public auction, known as a ''trustee's sale.''

This is different from a mortgage. Default on a trust deed can result in a trustee's sale within about four months of the first missed payment and without a court proceeding.

Foreclosure of a mortgage, by contrast, can take up to a year, requires a court proceeding, and has yet another disadvantage. The trustor's right to make good on the defaulted payments and interest and costs ceases to exist after a trustee's sale, but a delinquent mortgage, on the other hand, can be reinstated by making up the late payments up to a year after the foreclosure sale.

Default on a deed of trust also can occur, even if the payments are kept current, if the trustor fails to keep the property in good condition as agreed, fails to maintain hazard insurance as agreed, and if the property taxes and other liens are unpaid.

Usually, the beneficiary can assume possession of the defaulted property and collect any rents obtainable during the default period.

Despite these provisions, nobody seriously wants foreclosure on trust deeds. From four to six months of interest are almost automatically lost as the wheels of justice grind on.

Evictions are generally unfriendly proceedings. The trustor in default may become destructive. And, while anyone may bid at a trustee's sale, few people usually do - and the trustee rarely does. Thus, the beneficiary, in protecting his interest, may become the high bidder and have a vacant house to sell, during which time no interest income is realized.

The note that accompanies the trust deed is a negotiable instrument. The trust deed usually shows the face amount, but none of the repayment provisions.

The note can be sold, usually at a discount, or it can be used as collateral for a loan.

If used as collateral, it is a way to realize cash now from a note without having to discount it substantially. Depending on the spread between market interest rates and the rate of the note, up to 60 or 70 percent of the face value of the note can be borrowed from institutional and private lenders.

If sold at a discount, the term of the note, the interest rate, the seasoning of the obligation - that is, how long has the trustor been making payments? - and the quality and marketability of the underlying property all bear on how much of a discount will be required.

Local newspapers usually have a number of advertisements from people who claim to have more ready cash than they know what to do with. Be sure to compare the terms of offers from several of these loan brokers before selling your note at a substantial discount.

Theirs is a risky business, because sellers of notes are already posturing that they want cash instead of the note. The rate of return expected by the brokers reflects the degree of risk they see.

A nine-year note secured by desert property with a 10 percent interest rate may be discounted 50 percent or more in the marketplace. Consider using the note as collateral for a loan if the discount is, or appears to be, excessive.

There are intricate tables in rate books, while ''realty computers'' help to figure the yield of discounted notes, assuming you are interested in buying instead of selling.

Be sure to inspect the underlying security for the note before buying. This practice would minimize some of the fraud that has crept into the second-mortgage game recently. Consider obtaining title insurance if the note is substantial. Be aware of fraud possibilities. Consult your attorney or learn the ropes yourself.

Buying and selling trust deed-secured notes is not a field for neophytes.

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