What Is a Wrap-Around Loan?
A wrap-around loan is a type of mortgage loan that can be used in owner-financing deals. This type of loan involves the seller’s mortgage on the home and adds an additional incremental value to arrive at the total purchase price that must be paid to the seller over time.
Key Takeaways
- A wrap-around loan is a form of owner-financing where the seller of a property maintains an outstanding first mortgage that is then repaid in part by the new buyer.
- Instead of applying for a conventional bank mortgage, the buyer signs a mortgage with the seller, and the new loan is now used to pay off the seller's existing loan.
- Wrap-around loans can be risky due to the fact that the seller-financier takes on the full default risk associated with both loans.
Understanding Wrap-Around Loans
The form of financing that a wrap-around loan relies on is commonly used in seller-financed deals. A wrap-around loan takes on the same characteristics as a seller-financed loan, but it factors a seller’s current mortgage into the financing terms.Seller financing is a type of financing that allows the buyer to pay a principal amount directly to the seller. Seller financing deals have high risks for the seller and usually require higher-than-average down payments. In a seller-financed deal, the agreement is based upon a promissory note that details the terms of the financing. In addition, a seller-financed deal doesn't require that principal be exchanged upfront, and the buyer makes installment payments directly to the seller, which include principal and interest.
Wrap-around loans can be risky for sellers since they take on the full default risk on the loan. Sellers must also be sure that their existing mortgage does not include an alienation clause, which requires them to repay the mortgage lending institution in full if collateral ownership is transferred or if the collateral is sold. Alienation clauses are common in most mortgage loans, which often prevent wrap-around loan deals from occurring.