Subject-To?

Like most investors, I too send out yellow letters to distressed homeowners. Obviously, the intention is to find a property that can be acquired below market in order to make a profit. In most cases the properties that are contracted are either sold as a wholesale deal or are purchased to be renovated and sold. In a few instances the opportunity to contract a property subject-to presents itself but this situation is not usually what you expect it to be. Let me describe my most recent experience with a potential subject-to situation.

Most investors already know what a subject-to is but for those that do not let me give you a simple explanation. A subject-to is when a homeowner deeds the property to the buyer but the mortgage that the homeowner has remains in place. When the buyer is deeded the property he/she now owns the home “subject-to” the existing mortgage. In other words, the buyer will begin to make the mortgage payment or find a renter or new homeowner to do so in order for the buyer to one day own the home free and clear.

So recently, I received a call and scheduled an appointment to visit a property that on paper appeared to be a great investment property to purchase, renovate and sell but that was not the case when we arrived at the property. Before leaving my seat I do due diligence on every property in order to prevent wasting time. After some research, it appeared the original loan amount was $140K with a current market value of $185K if it was completely remodeled. Not much of a spread but would make a great rental if it only needed paint and carpet. This was a possibility because it was in a great neighborhood and built in 1994, which is not too old. After speaking with the owner over the phone and asking question after question I estimated the home may need about $5K to make rent ready which would make this an 80% LTV deal and the ROI would be about 12%, not too bad. This is where I decided I would ask the owner if he would consider a subject to. When I arrived to the neighborhood and then drove up to the property I thought this was a done deal. Once I walked in the back door into the kitchen I saw the estimated renovation cost of $5K being spent fast. Luckily the rest of the house was just dirty and needed mostly paint and carpet and maybe a fixture or two. After walking the home he agreed to a subject-to. I was excited and ready to get started but of course I needed to confirm all the info the owner gave me about the loan with the lender so I got an authorization letter signed. This letter states that the homeowner/borrower is granting you permission to call the lender directly to request any information you need concerning the loan, such as loan amount, interest rate, loan balance, number of months behind on payments, possibility of a loan modification, etc. One of the most important items, to me, is making sure the loan is fixed because I look to keep homes for a long period of time. The last thing I need is an increased interest rate killing my cash flow.

After calling the lender, the situation changed completely. The amount to catch up the mortgage was nearly $15K, the loan had been modified more than once and the principle balance was nearly $165K. I immediately called the owner and informed him that a subject-to was not the route we are willing to take due to the new information. I informed him that we could list the property on the MLS to see if it drew any traffic but requested that the home be trashed out, cleaned and some yard work be done before listing. The property went live and the traffic came due to some amazing pics. However, when the potential buyers arrived they had no interest in making an offer and those that did made offers well below the payoff amount. After plenty of similar feedback I suggested we attempt a short sale. I hate doing short sales but I liked the property and wanted to help the homeowner so I contacted the lender to confirm that a short sale was still possible. We are currently preparing the short sale packet.

As you can see what started out as a great candidate for a subject-to quickly turned to a listing and was then downgraded to a short sale. We will see what happens. Make sure to do your due diligence and then do more due diligence. There are great subject-to deals to be had out there but you will run into plenty of bad ones before finding one, so do not get discouraged. Just as in this example, be equipped with multiple exit strategies so your marketing does not go to waste. I always leave short sales as a last resort because this option still negatively affects the homeowner’s credit. Other options I make available to the homeowners may not only save the homeowners’ credit but it can also potentially improve it over time. This is important because you want to make sure you are always creating win-win scenarios.