A vendor take-back mortgage, also known as a VTB mortgage or seller take-back mortgage, is when the seller of a home lends money to the buyer of the home. The seller acts as a mortgage lender by letting the homebuyer borrow money in order to purchase the seller’s home, and the seller can partially or fully finance the purchase. The seller must own the home (have full equity), which means that the seller cannot give a buyer a VTB mortgage if the seller already has an existing mortgage on the home.
A VTB mortgage is usually used when the buyer of the home does not have enough money to buy the home. This might be because the homebuyer was not approved for the full purchase price of the home by their mortgage lender, or their mortgage application was denied.
The seller can help make the sale by offering a vendor take-back mortgage. The seller will make up for the difference by offering the buyer a mortgage directly. This can be in addition to a mortgage from a bank or other mortgage lender if the buyer was only able to borrow a portion, but not all of the home price. The buyer will make mortgage payments to the seller to pay back the VTB mortgage.
A VTB mortgage is a secured loan, which means that the home is collateral. The seller will register a lien on the property title. If the borrower obtained a mortgage from a bank or other lender, the VTB mortgage will be a second lien or a second mortgage.
If the buyer defaults on the VTB mortgage or their primary mortgage, the seller or the primary mortgage lender may initiate foreclosure proceedings or a power of sale.
Let’s say that you are selling your home for $500,000. A home buyer wants to purchase your home, but their bank only approved them for a mortgage of $400,000, which will result in a required down payment of $100,000 (20%).
You decide to offer the buyer a seller take-back mortgage to cover the remaining amount of $100,000. You will register the seller take-back mortgage as a second mortgage, after the bank’s mortgage. When the home is sold, you will receive $400,000. You will receive the remaining $100,000 through regular mortgage payments from the buyer.
There can also be a mix of funding sources involved as well. For example, if the home buyer had $50,000 saved up as a down payment, then they would be able to get the $400,000 mortgage from their bank, a $50,000 VTB mortgage borrowed from you, and will pay $50,000 cash to you. In this case, you will receive $450,000 now, and $50,000 to be repaid through VTB mortgage payments later.
Let’s say that a first-time homebuyer wants to buy your property, but they have zero savings. Your home has been listed for a very long time and you are not willing to lower your home price to attract other buyers. The first-time home buyer has been denied a mortgage from every mortgage lender that they have applied to. You decide to fully finance the buyer’s purchase through a seller take-back mortgage.
You are selling your home for $500,000, so you offer a VTB mortgage for $500,000. You will register the VTB mortgage as the primary lien on the property, as there are no other lenders involved.
When the home is sold, no cash will be exchanged. Instead, you will receive the $500,000 through mortgage payments from the buyer.
Vendor take-back mortgages help buyers to buy homes that they otherwise wouldn’t be able to afford, such as if they have a bad credit score or don’t have enough for a down payment. Along the same lines, this helps sellers to sell their home by attracting buyers. Sellers could also earn money through interest on the VTB mortgage.
For commercial and investment properties, offering a vendor take-back mortgage to the buyer will allow you to defer capital gains tax on any capital gains from the property. This capital gains deferral can be spread over five years.
For example, let’s say that you purchased a commercial property for $500,000. A private real estate investor wants to purchase your property for $700,000, so you offer them a VTB mortgage for $700,000. This will result in a $200,000 capital gain.
You can defer capital gains tax on the $200,000 since you are selling a capital property but not receiving the proceeds from the sale immediately. This $200,000 capital gain can be deferred over five years, for $40,000 per year.
Instead of having to report a $200,000 capital gain in a single tax year, you will only have to report a $40,000 capital gain per year for five years. By spreading out your capital gain, you will be able to decrease your taxable income which can help bring you into a lower tax bracket.
In some cases, such as corporations, your tax rate will stay the same even if you defer capital gains, which means that you will still eventually owe the same amount of tax. Instead, you will benefit by paying the taxes later, instead of paying it all today.
Even though vendor take-back mortgages are secured with the home being collateral, there are still risks in being a VTB mortgage lender. There is a reason why the home buyer was not able to get a mortgage for the full amount, or why they were denied a mortgage from mortgage lenders. Perhaps they have a low income that wouldn’t be able to support larger mortgage payments, or they have a bad credit score or credit history. All this means is that they are a risk that other banks weren’t willing to take, but a risk that you will take by lending them a mortgage.
To make up for this, vendor take-back mortgages can have high interest rates, but even then, you need to make sure that your home buyer will be able to afford the payments. If the buyer received a mortgage from a bank and a VTB mortgage from you, you will need to make sure that they would be able to handle two mortgages. Higher interest rates on a VTB mortgage means that it will be more expensive for the buyer.
If the bank is first in line with a primary lien and you have a second lien through a VTB mortgage, you will need to be proactive and monitor the state of the mortgage. The bank will be looking out for their own lien when deciding whether to foreclose or power of sale, and not necessarily consider your portion of the title.