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Definition and Examples of a Wraparound Mortgage
A wraparound mortgage is a type of home loan where the buyer’s new mortgage essentially “wraps” around the seller’s original mortgage. It’s a type of secondary financing where the mortgage is provided by the seller rather than a traditional bank or mortgage lender. As the buyer makes mortgage payments to the seller, the seller uses that money to continue paying off their original mortgage loan. However, the home now belongs to the buyer.
How a Wraparound Mortgage Works
In a standard home purchase, the buyer gets a loan from a bank or mortgage lender to pay for the property. The seller uses the money provided by the buyer to pay off their existing mortgage and is no longer involved with the property. However, in this type of creative home financing, the seller retains their existing mortgage and offers seller financing. The new wraparound mortgage includes the balance of the original loan plus the additional funds required for the purchase. The buyer then makes monthly payments to the seller, who uses some of that money to pay their original loan and keeps the rest. The seller often makes a profit because of the larger loan amount and also because wraparound mortgages typically charge higher interest rates. For example, let’s say you’re looking to purchase a home and the seller offers a $200,000 wraparound mortgage with a 4% interest rate. The seller has $125,000 left on their mortgage with a 3% interest rate. If you agree to this wraparound mortgage, you’ll make your monthly payments directly to the seller, and they’ll continue making their payments to their mortgage lender. In this scenario, the seller makes a profit because your monthly payment is higher than theirs due to the differences in the interest rates and loan amounts.
Wraparound Mortgage vs. Second Mortgage
But even if you make your payments on time, you face the risk of the seller defaulting on the original mortgage—in which case, you’ll be kicked out of the home and it will go into foreclosure. To mitigate this risk, you can request to make your payments directly to the lender, but it’s not always possible. As a seller, a wraparound mortgage can provide a tidy profit, and if you’re having trouble selling the home, this type of seller financing can open up more opportunities. However, you’re still on the hook to make payments on the original mortgage, even if the buyer stops paying you. And while you won’t be removed from the home if you default (since you already live elsewhere), it can damage your credit score and make it harder for you to qualify for other loans.
How To Get a Wraparound Mortgage
A wraparound mortgage is a form of seller financing, so you’ll need to speak with the seller of the home you’re interested in buying to see if it’s an option. Eligibility requirements can vary based on the seller’s discretion and the terms of their mortgage, but it’s generally easier to get approved for seller financing than for a traditional mortgage loan.
