Playing the bank on a cabin sale

By Tom Kelly | Investment columnist

Sept. 2006

For many Texans, holidays like Labor Day are a welcome excuse to get away from it all. Cabins and lakehouses — all types of vacation homes, really — tend to get used more on the long weekends.

Not all owners are headed to their home away from home, though. Our elderly friends had just returned from a holiday weekend at their waterfront getaway and realized a long-awaited European vacation — coupled with no trips by the grandkids — will leave the once-popular destination mostly vacant during the most favorable periods of the year.

"I darn near sold it five years ago," Robert Shelton says. "But the kids talked me out of it — said they wanted to come back. But they've used it less and less and it's one of the few real assets we have.

"I could use some cash, but I don't need it all right now."

Not all property sellers want cash. The monthly payment income from the sale of a family home, a rental property, or vacation cabin can supplement retirement income and serve as a continuing comfort zone.

Robert Shelton, like many retirees, says he needs only simple comforts. The mere mention of selling the cabin meant he had re-examined that comfort zone. To another person, the cabin sale could now be viewed as an extremely important — perhaps critical — flow of income.

If you no longer choose to nurse a rental or vacation cabin and want to sell it, you can spread any resulting capital gains tax over time by "playing the bank" and providing seller financing. And you can save the new buyers, perhaps a young family interested in your getaway community, the costs of a conventional loan while negotiating favorable interest rates for both sides.

However, if you participate in any sort of seller financing, make sure to build in safety features that protect your investment and sanity. In fact, it's not a bad idea to copy many of the loan requirements a local bank would insist upon. Among them:

It's a good idea to obtain a credit report on the buyer. Why would you want to sell your home or other property to someone you know nothing about?
Write into the earnest-money agreement that the buyer provides, and keeps current, a homeowner's insurance policy.
Purchase tax registration coverage from a title company. That way, if the property taxes are not paid, you will be notified. Include in the earnest-money agreement that the buyer make timely tax payments.
Insist on a due on sale clause that you, as the initial seller, must approve any subsequent sale in writing. That way, if the property is sold before the term of your note or contract, you will receive all your cash upon the transfer of the property, or retain the ability to approve the new buyer.
If you absolutely cannot be cashed out early (say you need monthly income or do not want to pay taxes on the lump-sum gain) request a prepayment penalty. That way, if you receive a huge balloon payment when you don't necessarily want it, you will be reimbursed for the inconvenience (tax consequences, loss of reliable income, etc.).
Consider taking a downpayment of at least 20%. If you need to sell the note before term (illness or other emergency), this will make it easier to sell. Like regular mortgages, lenders require mortgage insurance for loans they write with less than 20% down. You will reduce the risk of any future note holder by having an amount at least equal to a conventional downpayment.
Consider a third-party collection account. You can split the cost (about $60 a year) with the buyer, and the service is well worth the money. It provides you with complete tax statements (seller must submit principal and interest amounts to the buyer-payer annually) and receives and deposits monthly payments — especially valuable if you have to go out of town unexpectedly.

When honest, competent parties are involved, seller financing via a real-estate contract or deed of trust can be a wonderful vehicle for buying and selling property.

But do take the time to prepare if you are going to assume the position of playing the bank. The bank certainly does.

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