Dan's Papers - October 31, 2008

We have a new entry to the endangered species list: the mysterious, rare "deal on the table." That elusive beast (otherwise know as a closing) once had a wide-ranging presence on the East End. But now its numbers have dwindled. And to make matters worse, when the coveted deal on the table does dare to rear its head, there's a chance it will escape.

As we all know, one of the main reasons that deals on the table have become so wildly unpredictable is because of a breakdown in the financing process. At the closing, a bank may decide it will give a seller only part of what was originally promised. Recently, that very situation happened in East Hampton. A coveted buyer and grateful seller came together in a meeting of the minds that progressed all the way to the closing table. At that high stakes, high-anxiety event, the bank announced it was holding back about $100K of the requested mortgage amount. But the deal was saved when the seller made a move that harkened back to the '80s. No, he didn't do the hustle - unless you consider holding paper a slick move.

Which, in this market, it is.

More and more, agents on the East End are seeing a trend that hasn't been practiced in at least a decade: owner financing.

"Way back when, in the early '80s, it wasn't uncommon for sellers to hold paper," said Janet Hummel, a partner of Town & Country Real Estate and the manager of the agency's Bridgehampton office. "But we're definitely starting to see more of it now, as credit markets are tighter. Owner financing makes the property more attractive to potential buyers."

Rick Hoffman, Corcoran Regional Senior Vice President, also cited the trend from days of yore. "If you look back in the market, late '80s and even early '90s, owner financing was a practice you'd see fairly often. Whenever there's a buyers' market, it is an incentive if a seller can hold paper. And we have definitely transitioned from a sellers' market to a buyers' market."

With owner financing, a seller is essentially acting as a bank. "The owner holds the mortgage," said Hummel. "He would take a down payment - usually it's high, in the 30% range - and collect the balance in monthly payments. Obviously the seller also collects interest, maybe 6%. Where else, now, could you get that kind of return?"

Of course, as the country has learned, lending money is risky. Hummel suggested that one of the best ways to minimize risk is for the seller to be in first place as lender. "You don't want to be in a subordinate position - behind another lender, like a bank, which would be paid first if the house goes into foreclosure."

In addition to claiming a space at the top of the food chain, sellers interested in owner financing need to have a promissory note or mortgage, using the house as collateral. Hummel said a good attorney will, in addition, make sure the buyer signs a personal guarantee that the loan will be repaid with funds or assets beyond the property itself if necessary. Hummel said any reputable real estate attorney could handle an owner-financed deal. Real estate agents representing buyer or seller are involved just as they would be in any transaction with a traditional lender.

Rick Hoffman said that Corcoran is educating its agents on the practice, so they can be conversant about it with sellers. "A real estate agent should be knowledgeable about the process and be able to educate sellers about the option," he said. "But advising the seller is not an agent's responsibility. The seller should to go his or her tax attorney, tax accountant or real estate attorney."

The advantage of owner financing for buyers is that it opens up options to those who may have difficulty getting a mortgage through traditional lenders. For sellers, in addition to making their properties more accessible, it may provide tax incentives - and that's where the number crunchers come in handy.

"Owner financing may be a good option for a seller who has a lot of equity in the property. It could help him or her defer capital gains taxes to an extent," said Hoffman.

Of course, this option works best for a seller who doesn't need the windfall profit and 100% liquidity that would come from a bank-financed transaction. On the upside, sellers who could benefit from a steady cash flow would pay tax only on the down payment, and the monthly installments when they're paid.

"Of course there's risk involved," said Hummel. "You do credit checks and due diligence, and hope that the person will pay it back. It's a gamble."

Despite the risk, Hummel and Hoffman agreed that, for some, the advantages of making a property more sellable in a glutted market via owner financing may outweigh the risks. And that philosophy is being borne out as the practice begins to make a come-back here. As it does, the deal on the table may have more than a polar bear's chance in Alaska to reestablish itself on East End soil.