As a real estate agent, you will inevitably have a client who wants or needs to buy a home before selling their current home. This scenario is complex - it requires preparation and teamwork between the seller/buyer, real estate agent, and lender(s) prior to moving forward.
Here in the San Francisco Bay Area, if you write an offer for a client contingent on selling their current home, your chances of getting the offer accepted are pretty low!
My goal with this guide is to educate and inform you about how the lender contributes to these transactions, what their concerns are, how their guidelines vary, and how to choose a lender or lenders to work with.
Does your client need equity from the current home for the down payment on the new home?
Here are four financing options your client can use to extract the equity from their current home for the down payment on the new home:
- Home Equity Line of Credit (HELOC)
- Cash out refinance
- Cross collateralization
- Bridge loan
Let's look at each of these options:
A HELOC generally has the lowest closing costs associated with accessing the equity. If you have clients who you think may move in the future it would be a good idea to coach them to get a HELOC now even if they don't need it.
If your client does not have a HELOC but wants to get one to use to access the equity for the down payment, please note: your client is stating to the HELOC lender on the application that they plans to reside in the property. You don't want your client to have fraud issues!
Cash out refinance
A cash out refinance would also have the same occupancy issues that a HELOC would have. Another issue would be timing - how long it would take to obtain the refinance? Even the fastest refinances take at least two weeks to close because of the waiting period after signing the Closing Disclosure (CD), and the three day right of rescission after signing the final loan documents.
Cross collateralization occurs when a lender places a lien on the current home as well as the new home. The benefit to the owner/buyer is that they can gain access to the equity without refinancing.
The easiest way to explain how cross collateralization works is with an example.
Your clients owns a home worth $1 million (this is the SF Bay Area!). They owe $400,000. They would like to buy a home for $1.5 million.
The cross collateralizing lender will add the two property values together ($2.5 million). They would multiply This value by their maximum LTV percentage (suppose it is 70% = $1.75 million). They would then subtract the balance on the current home ($1.75 million minus $4000,000 = $1,350,000).
Therefore, on a $1.5 million purchase your clients would make a cash down payment of $150,000. After they sell their home they can pay down the new mortgage and have the payment re-amortized by the lender based on the reduced balance!
A bridge loan is usually a second mortgage obtained on the current home for the down payment on the new home. It is usually short-term in nature (6 to 12 months), and the payments are usually interest-only.
Here are some of the criteria that should be considered when choosing a bridge loan lender:
- Speed of closing
- Maximum LTV
- Term of the loan
- Rates and fees
- Qualifying guidelines
- Status of the home to be sold (not listed, listed, pending sale, etc.)
All of these criteria need to be considered together when choosing a bridge loan lender. For example, there are some lenders who offer great bridge loan terms if the current home is pending sale. There are other lenders who can fund bridge loans quickly, but their terms may not be as attractive.
OK, we have covered several ways for the home owner to obtain funds for the down payment. However, that part is half the story!
How do lenders qualify the clients with debts on the current home and the new home?
Lenders have a wide variety of ways they qualify clients who are in the buy a home before selling a home scenario. As a mortgage banker who also has the ability to broker, I have reviewed the guidelines of many lenders and have found that it is very important to get the scenario pre-approved upfront because of all of the details involved!
I will give a summary of the variety of qualifying guidelines from what I would consider to be the simplest to qualify for to the most difficult:
- Listing agreement - in this scenario the lender will not count the debt on the current home with a listing agreement. To qualify, a listing agreement would be needed up front, and then an actual listing on the MLS would be needed prior to closing. With these guidelines the client is, in essence, qualifying for the new home expenses only!
- Rent survey - Although the client is planning to sell the home, a rent survey prepared by a licensed appraiser is obtained. Typically, 75% of the income from the rent survey is utilized. After subtracting out the PITI on the current home, that figure is used in qualifying. Some lenders will allow positive income to be used in qualifying, others will not. In most cases, if the total is a negative, that figure will be a debt for the client in qualifying.
- Pending sale on current home - If the client has a pending sale on their current home, the debt on the current home may not be counted. There are a wide variety of additional guidelines in this scenario, such as additional cash reserves required, how quickly the sale on their current home will close, are financing contingencies by their buyer removed, etc. This scenario requires more due diligence by all involved to get the transaction(s) closed.
Writing a non-contingent offer in the buying a home before selling a home scenario
If you are in a very competitive market, like our market in the San Francisco Bay Ares, writing an offer contingent on the sale of a home is most likely going to be a rejected offer. So, can you write a non-contingent offer in the buy a home before selling situation?
The decision to write a non-contingent offer is between you and your client. However, I would suggest that if you and your client do decide to write a non-contingent offer, at the very least have a pre-approval letter for the bridge loan and the new property loan. Ideally, the bridge loan (if needed) has already funded, which would make the offer stronger!
How do you choose a lender(s) to work with to make this transaction happen?
In my opinion you need a "quarterback" to oversee the entire transaction. A lender who has multiple sources for bridge loans and multiple sourcess for the purchase loan would be ideal. Every seller/buyer has a unique situation. Therefore, a lender who has these sources and understands how to put these transaction(s) together would be a valuable asset for you!
Phil Caulfield NMLS #386911 APMC #1850 has been helping people obtain mortgages since 1985. The views, articles, postings, and information listed at this website are personal and do not necessarily represent the opinion or the position of American Pacific Mortgage Corporation.