What is the Dodd-Frank Act?
The Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Act” or “Dodd-Frank Act”) came to fruition in response to the financial crisis of 2008. The purpose of the Dodd-Frank Act was to regulate various aspects of the financial system and establish safeguards for consumers obtaining a residential mortgage loan from predatory lending practices. With this in mind, the following is a brief discussion of the Dodd-Frank Act related to seller financing or private money financing of residential real property.
When does the Dodd-Frank Act apply to residential mortgage loans?
The Dodd-Frank Act prohibits private money financing when the property is a buyer’s principal residence unless the loan goes through a licensed mortgage originator (as defined under the Act). The mortgage originator provisions apply to residential mortgage loans made on a buyer’s principal residence. It does not apply to residential mortgage loans made on a buyer’s second home or investment property. The Act, however, establishes notable exclusions from the mortgage originator provisions for certain seller financers.
What are the requirements for seller financing?
Under the seller-financing exclusions, the seller financer must be a person, estate, or trust and has not constructed or acted as a contractor to build a residence on the property.
For sellers that finance only one (1) property in any 12 months, the financing must meet the following criteria:
- The note does not result in negative amortization;
- Has a fixed rate or an adjustable-rate that is adjustable after five (5) or more years, subject to reasonable annual and lifetime limits (a yearly interest rate increase of 2 points or less and a lifetime limit of an increase of 6 points); and
- The seller must determine in good faith and document that the buyer has the reasonable ability to repay the loan.
For sellers that finance no more than three (3) properties in any 12 months, the financing must meet the following criteria:
- The note must be fully amortizing (i.e., no balloon payment);
- Has a fixed rate or an adjustable-rate that is adjustable after five (5) or more years, subject to reasonable annual and lifetime limits (a yearly interest rate increase of 2 points or less and a lifetime limit of an increase of 6 points); and
- The seller must determine in good faith and document that the buyer has the reasonable ability to repay the loan.
In summary, any time a buyer elects to finance their purchase with the seller or private money lender, the Dodd-Frank analysis should be considered. If you have any questions concerning seller financing or private money financing, we encourage you to Contact your local real estate attorney.
