What Is a Wrap in Real Estate and How Does It Work?

A wrap in real estate refers to a financing arrangement where a property seller extends financing to a buyer, incorporating an existing mortgage on the property. This structure allows a real estate transaction to occur without the buyer needing to secure a new, traditional mortgage from a bank. It involves the seller taking on the role of a lender while their original mortgage remains in place. This method can facilitate property sales.

Understanding Wrap-Around Mortgages

A wrap-around mortgage is a form of seller financing where a new loan provided by the seller “wraps around” an existing mortgage on the property. The seller becomes the buyer’s lender, and the original mortgage remains in the seller’s name. The buyer makes regular payments directly to the seller, and the seller, in turn, continues to make payments on the original, underlying mortgage to their lender. This creates a layered financing structure where the seller acts as an intermediary.

The buyer receives a new promissory note and a deed of trust or mortgage from the seller, covering the purchase price, less any down payment. The wrap-around mortgage includes the balance of the seller’s existing loan plus additional funds to reach the purchase price. The interest rate charged to the buyer is higher than the seller’s original mortgage rate, allowing the seller to profit from the difference.

The buyer makes a single monthly payment to the seller. From this payment, the seller remits the required amount to the original lender. This continues until the wrap-around is paid off. The seller maintains responsibility for the original mortgage, even though the buyer has taken possession and is making payments. This setup allows the buyer to acquire the property without directly interacting with the original lender or obtaining a new loan from a traditional financial institution.

Key Components of a Wrap

A wrap-around real estate transaction is structured through legal documents defining obligations and security interests. A key component is the wrap-around promissory note, signed by the buyer. This note outlines the terms of the seller-finance loan, including interest rate, payment schedule, and total amount owed. It legally binds the buyer to make payments to the seller.

Accompanying the promissory note is the wrap-around deed of trust or mortgage, serving as the seller’s security instrument. This document establishes the seller’s lien on the property, ensuring the right to foreclose if the buyer defaults. The seller’s lien under the wrap-around deed of trust is in a junior position, subordinate to the original lender’s lien. This hierarchy dictates that the original lender would be repaid first in the event of a foreclosure.

The original promissory note and deed of trust or mortgage remain in effect. These documents continue to govern the relationship between the seller and their original lender. The buyer does not assume the original loan, and it remains the seller’s responsibility. These components create a legal framework establishing payment obligations, security interests, and ownership structure within a wrap-around arrangement.

When a Wrap is Used

Wrap-around mortgages are used when traditional financing is challenging. Buyers who face difficulties in obtaining conventional loans consider wraps. This includes individuals with lower credit scores, limited down payments, or complex income documentation. A wrap-around can offer a pathway to homeownership when a buyer cannot qualify for a traditional mortgage.

For sellers, offering a wrap-around mortgage can facilitate a quicker property sale. It expands the pool of potential buyers by providing an alternative financing option. Sellers can also benefit from earning a higher interest rate on the wrapped loan than their original mortgage, creating an additional income stream. Seller financing, including wraps, can offer tax advantages by allowing sellers to defer capital gains taxes over the installment payments, rather than recognizing the entire gain in the year of sale.

Market conditions also influence the use of wrap-around mortgages. In environments with high interest rates, where traditional loans are expensive, wraps become more appealing. In tight credit markets, where lenders impose stricter qualification criteria, seller-financed options provide flexibility. This alternative financing strategy can bridge gaps in the market, allowing transactions to proceed that might otherwise stall.

Considerations for Parties Involved

For buyers considering a wrap-around mortgage, easier qualification and lower upfront costs compared to traditional loans can be appealing. Down payment requirements are often flexible, with some deals requiring as little as 15-20% down, or even no down payment. Buyers should verify the underlying loan’s status, ensuring it is current and in good standing. Buyers should also ensure the seller consistently makes timely payments to the original lender, possibly by requiring access to the mortgage account or setting up a third-party escrow. Buyers should understand the new interest rate and payment structure, which can range from 4% to 10% or higher, depending on negotiations and market conditions.

For sellers, a wrap-around can facilitate a quicker sale and provide an ongoing income stream through interest earned on their equity and the wrapped portion of the original loan. However, the seller retains responsibility for making payments on the underlying mortgage, even after title and deed transfer to the buyer. This means the original loan remains on the seller’s credit report. A consideration for sellers is the “due-on-sale” clause, a common provision in most mortgage agreements. This clause allows the original lender to demand full repayment of the loan if the property is sold or transferred.

While some lenders may not enforce the due-on-sale clause if payments are consistently made, it remains a potential factor that could lead to the loan being called due. If this occurs, the seller would be required to pay off the entire original mortgage, which could be problematic if the buyer cannot secure new financing or the seller lacks funds. Both buyers and sellers should seek professional legal and financial advice to understand the complexities, documentation, and implications involved.