The Dodd-Frank Act Does Not Prohibit A Balloon Payment In A One-Time Seller Financing Transaction
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AAR Introduces Four New Forms to Assist With Dodd-Frank Act Compliance
Scheduled to take effect in January 2014, are provisions of the Dodd-Frank Wall Street Reform and Consumer Protection Act (the Dodd-Frank Act) that impose new restrictions upon seller-financed transactions. When required by applicable state or federal law, these provisions mandate that a loan originator for a consumer credit transaction, secured by a dwelling, must be registered and licensed in accordance with those laws including the Secure and Fair Enforcement for Mortgage Licensing Act. Although the definition of a “loan originator” under the Dodd-Frank Act is broad in scope, 12 CFR § 1026.36 identifies two categories of seller financing excluded from the loan originator definition.
In order to ensure that its members are not facilitating seller-financed transactions in violation of the Dodd-Frank Act, the Arizona Association of REALTORS® (AAR) has removed its Assumption/Carryback Addendum from the AAR forms library. Taking its place are four new forms; two forms that enable parties to originate seller-financed transactions in which the seller is able to qualify for one of the two aforementioned exemptions.
The first exemption to the definition of a loan originator requires that: (1) the seller originates financing for only one property in any 12-month period; (2) the seller is a natural person, estate or trust; (3) the seller did not construct the residence on the property; (4) the financing does not result in negative amortization; and (5) the financing has a fixed rate or does not adjust for the first five years. If a seller is able to satisfy each and every one of these requirements, that seller will now utilize the new form titled SELLER FINANCING ADDENDUM; CONSUMER CREDIT TRANSACTION SECURED BY A DWELLING – Seller Providing Financing For Only One Residential Owner-Occupied Property In Any 12-Month Period;
Requirements of the second exemption include: (1) the seller originates financing for no more than three residential properties in any 12-month period; (2) the seller is a natural person or an organization, including a partnership, corporation, proprietorship, association, cooperative, trust, estate, or government unit; (3) the seller did not construct the residence on the property; (4) the loan is fully amortizing; (5) the financing has a fixed rate or does not adjust for the first five years; and (6)the seller has determined that the borrower has the reasonable ability to repay the loan according to its terms per 12 CFR § 1026.43(c). If a seller is able to satisfy each and every one of these requirements, that seller will now utilize the new form titled SELLER FINANCING ADDENDUM; CONSUMER CREDIT TRANSACTION SECURED BY A DWELLING – Seller Providing Financing For Three or Fewer Residential Owner-Occupied Properties In Any 12-Month Period.
As previously mentioned, the Dodd-Frank Act provisions governing seller-financed transactions apply only to those consumer credit transactions secured by a dwelling, which is defined as “a residential structure that contains one to four units.” Consequently, sellers originating financing for raw land, commercial properties and other transactions not secured by a dwelling need not utilize Dodd-Frank Act compliant forms. Sellers of this nature will therefore now utilize the new form titled SELLER FINANCING ADDENDUM; NON-CONSUMER CREDIT TRANSACTION.
Finally, a new LOAN ASSUMPTION ADDENDUM has been released, which is substantially similar to page two of the now retired Assumption/Carryback Addendum with the addition of two important warnings. The first new warning, found on lines 16 through 21, advises the seller of the importance of securing a release of liability from the lender in conjunction with the assumption. The second, found on lines 22 through 25, warns the parties of the risks associated with a due-on-sale clause contained in the seller’s deed of trust (or other conveyance document) and the remedies available to the seller’s lender if the due-on-sale clause is not waived.
AAR would like to thank the members of the Assumption/Carryback Addendum Workgroup, chaired by Martha Appel, for all of their hard work and assistance in the creation of the four new forms referenced in this article. The REALTOR® members of the workgroup include Martha Appel (chair), James Burton, Armando Contla, David Pollesche, Leslie, Pollesche, and Todd Smith. Three additional members of the workgroup who deserve equal praise are John Lotardo, Senior Vice President and General Counsel for Stewart Title & Trust of Phoenix; Richard Mack, Partner at the law firm of Mack, Watson & Stratman; and Amy Swaney, Governmental Relations Officer, Citywide Home Loans. As General Counsel, the author was also involved in the creation of the new forms, along with AAR staff members Jan Steward and Cynthia Frey.
While real estate licensees will inevitably become more familiar and comfortable with the four new forms, use of the forms will also result in questions. In anticipation of these issues, below is a list of FAQs pertaining to the new forms, along with answers, intended to provide additional guidance.
Q: Can a seller who is a corporation utilize the exemption by which a seller providing financing for only one residential property in any 12-month period need not be licensed as a loan originator?
A: No. The exemption that enables a seller without a loan originator’s license to offer financing for only one residential property in any 12-month period is only available to a natural person, trust or estate.
Q: Can a seller who is a corporation utilize the exemption by which a seller providing financing for three or fewer residential properties in any 12-month period need not be licensed as a loan originator?
A: Yes. The exemption that enables a seller without a loan originator’s license to offer financing for three or fewer residential properties in any 12-month period is available to a person or organization, including a corporation, partnership, proprietorship, association, cooperative, estate, trust or government unit.
Q: A seller originated financing on December 15th under the exemption that allows a seller who is not a licensed loan originator to provide financing for only one residential property in any 12-month period. Can that same seller then provide financing to another buyer under the same exemption on January 15th of the following year?
A: No. The subject exemption allows a qualified seller not licensed as a loan originator to provide financing for only one residential property in any 12-month period. The 12-month period does not necessarily run from January 1 to December 31.
Q: How can a seller providing financing for three or fewer residential properties in any 12-month period make a reasonable and good faith determination at, or before, loan origination that the borrower will have a reasonable ability to repay the loan according to its terms?
A: Sellers seeking to determine the borrower’s ability to repay the loan should closely review 12 CFR § 1026.43(c) prior to consummation. 12 CFR § 1026.43(c)(2) states that a creditor must consider the following: (i) the consumer’s current or reasonably expected income or assets, other than the value of the dwelling, including any real property attached to the dwelling, that secures the loan; (ii) if the creditor relies on income from the consumer’s employment in determining repayment ability, the consumer’s current employment status; (iii) the consumer’s monthly payment on the covered transaction, calculated in accordance with paragraph (c)(5) of this section; (iv) the consumer’s monthly payment on any simultaneous loan that the creditor knows or has reason to know will be made, calculated in accordance with paragraph (c)(6) of this section; (v) the consumer’s monthly payment for mortgage-related obligations; (vi) the consumer’s current debt obligations, alimony, and child support; (vii) the consumer’s monthly debt-to-income ratio or residual income in accordance with paragraph (c)(7) of this section; and (viii) the consumer’s credit history.
Pursuant to 12 CFR § 1026.43(c)(4), a creditor must verify the amounts of income or assets that the creditor relies on under § 1026.43(c)(2)(i) to determine a consumer’s ability to repay a covered transaction using third-party records that provide reasonably reliable evidence of the consumer’s income or assets. A creditor may verify the consumer’s income using a tax-return transcript issued by the Internal Revenue Service (IRS). Examples of other records the creditor may use to verify the consumer’s income or assets include: (i) copies of tax returns the consumer filed with the IRS or a State taxing authority; (ii) IRS Form W-2s or similar IRS forms used for reporting wages or tax withholding; (iii) payroll statements including military leave and earnings statements; (iv) financial institution records; (v) records from the consumer’s employer or a third party that obtained information from the employer; (vi) records from a federal, state or local government agency stating the consumer’s income from benefits or entitlements; (vii) receipts from the consumer’s use of check cashing services; and (viii) receipts from the consumer’s use of a funds transfer service.
Q: When should a seller utilize the form titled SELLER FINANCING ADDENDUM; Non-Consumer Credit Transaction?
A: The seller-financing restrictions imposed by the Dodd-Frank Act apply to credit transactions secured by a dwelling. For purposes of the Dodd-Frank Act, dwelling is defined as a residential structure that contains one to four units and includes an individual condominium unit, cooperative unit, manufactured home and mobile home. The form titled SELLER FINANCING ADDENDUM Non-Consumer Credit Transaction will therefore primarily be used for sellers providing financing for raw land and commercial buildings.
Q: How does a seller determine if a transaction is a high-cost mortgage?
A: The Home Ownership and Equity Protection Act identifies three tests to determine if a transaction is a high-cost mortgage. Generally speaking, the three tests are as follows:
TEST ONE?—?A transaction is a high-cost mortgage if its APR (measured as of the date the interest rate for the transaction is set) exceeds the Average Prime Offer Rate (APOR) for a comparable transaction on that date by more than:
- 6.5 percentage points for first-lien transactions, generally;
- 8.5 percentage points for first-lien transactions that are for less than $50,000 and secured by personal property (e.g., RVs, houseboats and manufactured homes titled as personal property);
- 8.5 percentage points for junior-lien transactions.
TEST TWO?—?A transaction is a high-cost mortgage if its points and fees exceed the following thresholds:
- 5 percent of the total loan amount for a loan amount greater than or equal to $20,000;
- 8 percent of the total loan amount or $1,000 (whichever is less) for a loan amount less than $20,000.
TEST THREE?—?A transaction is a high-cost mortgage if you charge a pre-payment penalty:
- More than 36 months after consummation or account opening; or
- In an amount more than two percent of the amount prepaid.
Q: Is a speculative home builder capable of utilizing the exemption by which a seller providing financing for only one residential property in any 12-month period need not be licensed as a loan originator?
A: No. If the seller constructed or acted as a contractor for the construction of the residence on the property as part of their ordinary course of business, they are not eligible for this exemption. Similarly, a speculative home builder is not eligible for the exemption pertaining to seller financing for three or fewer properties in any 12-month period.
Q: If a seller who provides financing for two or three properties in a 12-month period does not comply with the “ability to repay” requirement per 12 CFR § 1026.43(c), what are the possible liabilities to the seller?
A: If a consumer has trouble repaying the seller-financed loan, that consumer may claim that the seller failed to make a reasonable, good-faith determination of their “ability to repay” before originating the loan. If the consumer is able to prove this claim in court, the seller financier could be liable for, among other things, monetary damages of up to three years of finance charges and fees paid by the consumer, as well as the consumer’s legal fees. (Note: There is a three-year statute of limitations on affirmative “ability to repay” claims. After three years, consumers can only bring “ability to repay” claims as setoff/recoupment claims in defense to foreclosure proceedings).
Q. The LOAN ASSUMPTION ADDENDUM indicates that its intended use is for existing, first position loans. Can this form nonetheless be used to assume more than one loan?
A: Yes. Provided that one of the loans being assumed is in first position, the LOAN ASSUMPTION ADDENDUM can be used to document the assumption of multiple loans. Under those circumstances, the terms of the second loan being assumed would be set forth in the Additional Terms and Conditions section of the Addendum. Alternatively, the parties can elect to complete more than one Loan Assumption Addendum and attach all addenda to the Purchase Contract.
Q: A Seller Attachment has been added to two of the three new Seller Financing Addenda. Why does it not apply to all three forms?
A: The third form, titled SELLER FINANCING ADDENDUM; Credit Transaction Not Secured By A Dwelling, is the only one of the three seller-financed transactions that does not fall under the provisions of the Dodd-Frank Act. The Seller Attachment was created to advise a seller of certain applicable state and federal laws that must be complied with in a credit transaction secured by a dwelling, and thus governed by the Dodd-Frank Act. Because the SELLER FINANCING ADDENDUM; Non-Consumer Credit Transaction pertains to transactions not governed by the Dodd-Frank Act, the Seller Attachment is not applicable.