In many areas, anyone who’s tried to purchase a home recently knows the pain of the supply shortage. Inventory is tight, prices are up nationwide and competition is fierce. Cash buyers are pushing out loan-dependent bidders, inspiring buyers to find creative ways to make the strongest offers. One option is delayed financing, which allows buyers to make a compelling offer while still borrowing money to purchase a home.
What is delayed financing?
Delayed financing allows buyers to use cash, and in some cases stocks, to buy a house and obtain a mortgage after the home is purchased. Essentially, they’re enjoying the advantages of being a cash buyer while still getting the benefits of using a mortgage for leverage.
Delayed financing deals are very similar to buying a home and doing a cash-out refinance, so you can expect to pay rates similar to the prevailing rates for cash-out refis.
How does delayed financing work?
Delayed financing starts by coming up with the funds to purchase a home in cash. You might choose to use savings or sell off other assets, such as stocks or properties, to get your hands on the money.
Then, the application process for delayed financing is just like applying for a home loan. The borrower needs to supply the same financial information, proof of employment and undergo a credit check. Like a loan prequalification, borrowers must maintain the integrity of their credit and employment status between the time they buy the house and when they get their mortgage.
This type of financing isn’t for everybody, though, and having a pocketful of cash can have its temptations for some people.
“One of the risks — and this is just human nature — is that you want to make that home your own. You want to buy furniture and those types of things. So, there is a risk they advance additional credit to make changes to the home,” says Allen Seelenbinder, divisional sales executive for Bank of America. “So, we just advise them to understand their debt-to-income ratio and credit report.”
Who is eligible for delayed financing?
Fannie Mae has guidelines around delayed financing, including that:
- Your original purchase was an “arms-length” transaction, which means you didn’t have a personal relationship with the seller
- You can document the source of the cash (for example, bank statements, personal loan or line of credit information or a gift letter)
- You don’t obtain a mortgage higher than the total of the purchase price, closing costs, points and fees
- The property doesn’t have any liens
Ideally, candidates for delayed financing have access to cash or stocks and a trusted set of advisors. Buyers should have a conversation with a loan officer, their financial advisor and an attorney or real estate agent about their goals and the risks of using this type of product.
“It’s an option, not a necessity, and it can be a big benefit for the right clients,” says Seelenbinder.
Along with liquid assets, buyers can leverage securities for delayed financing, Seelenbinder points out. Merrill, the Bank of America affiliate, for example, allows buyers to take out a line of credit against their securities. There’s no capital gains tax because they’re not liquidating them. That line of credit can fund the next day.
“We have clients who purchase a home for $1 million with securities-based lending, come back to us and we do a delayed financing at a percentage of that purchase price, and it pays off their credit line and they get a fixed rate under the same conditions as if they did a purchase transaction,” Seelenbinder says. “And they’re not hit with the additional fees as they would be with a cash-out refinance.”
However, some clients make the mistake of liquidating their assets, which could end up costing them a bundle in taxes. One common example, says Seelenbinder, is an heir who inherits significant stocks and stock grants. These often have a low-cost basis, which is the original value of an asset for tax purposes.
“Once they sell those at current market price, then that capital gain becomes a taxable event. If they use that cash to purchase the home, then, yes, we could do delayed financing to get the cash back; however, it could actually cost them more,” Seelenbinder says. “In most cases, there are other avenues for them to avoid or diminish those tax consequences, and a CPA or lawyer would be able to advise them on that.”
Pros and cons of delayed financing
- Cash makes for a more attractive offer, which can make the difference in a hot market
- Cash can expedite the process
- No six-month waiting period, unlike a cash-out refinance
- No cash-out refinance fees, which are typically 3 percent to 6 percent of the mortgage
- Rates could go up if you wait too long to get your mortgage after buying
- Risk you won’t be able to get financing if issues with the home arise after purchase
What to consider with delayed financing
Unlike a cash-out refinance, delayed financing has no six-month seasoning wait period, a requirement before lenders will write a mortgage on a newly purchased property. This means buyers are able to get their cash back quickly and lock in a rate. There are also no cash-out refinance fees, which can be between 3 percent and 6 percent of the mortgage.
The downside of this is that if homebuyers wait too long to secure a mortgage after they buy the house through delayed financing, they may face higher interest rates. In today’s rising-rate environment, this is a possibility.Unlike a cash-out refinance, delayed financing has no six-month seasoning wait period, a requirement before lenders will write a mortgage on a newly purchased property. This means buyers are able to get their cash back quickly and lock in a rate. There are also no cash-out refinance fees, which can be between 3 and 6 percent of the mortgage.
“When you’re talking about bigger loans, an eighth or a quarter of a percentage point rate hike can be significant,” says Ben Dunbar, managing partner at Gerber Kawasaki Wealth and Investment Management in Santa Monica, California.
Cash buyers also sidestep other lender requirements. For example, they can buy a home that doesn’t pass inspection, fix it up within 60 days and still qualify for their mortgage. This is common for people in certain areas of the country, especially along the coasts and in vacation spots, says Seelenbinder.
However, buying a home that’s not eligible for financing because of its condition can become a financial disaster.
“It’s a little worrisome that people will buy a house with major damage or structural problems with cash, hoping to get a mortgage later. Unless they hire experts to inspect the house, they really don’t know what they’re buying,” says Dunbar.
In that situation, it’s essential to hire inspectors who are specialists, for example in construction or electrical work, to do a thorough evaluation. The worst-case scenario is buying a property, finding the problems are worse than you realized and then pouring in more cash to remedy them. Worse still, if you can’t afford the repairs, you might not get the delayed financing and lose access to your cash.
However, delayed financing can ultimately help homebuyers in tight markets successfully compete for houses because they’re using cash.
“When sellers are looking at 15 offers on their house, you want to make the most attractive offer. This is why we’re seeing more people using delayed financing,” Seelenbinder says.
If using delayed financing, be sure to purchase title insurance. Although cash buyers are not required to purchase title insurance, it’s a good idea, because it can help detect any undiscovered liens. Another good reason: peace of mind knowing that in the rare situation where there’s a defect in the title, your investment in the home is protected.
How to apply for delayed financing
- Talk to your financial advisor, CPA and real estate agent to assess the risks and benefits. A delayed financing cash offer can help you stand out in a crowded market, but there can be consequences if rates increase or the home ends up having significant problems. There could also be tax implications.
- Make sure you meet all the eligibility requirements for a mortgage, including: having no relation to or close friendship with the seller; documenting the sources of the cash used to buy the home; not borrowing more than the purchase price of the home; and ensuring the home has a clear title.
- Complete an application for a mortgage with a lender within six months after purchasing the home. Be prepared to include details about your finances and work history and undergo a credit check.