The future of Vendor Take-Back Mortgages

By definition, a Vendor Take-Back Mortgage is a type of mortgage where the seller offers to lend funds to the buyer to help facilitate the purchase of the property. The take-back mortgage often represents a secondary lien on the property, as most buyers will have a primary source of funding from a lender.

Popular in the 1980’s when double-digit interest rates were the norm and it was harder to get lender financing approvals, vendor take-backs provided buyers and sellers a means to complete a purchase transaction. The Financial Post suggests we could see the return of vendor take-back mortgages from their article ‘Mortgages: You Can Take Them Or Leave Them’.

Vendor take-back mortgages are most common when the buyer doesn’t have a down payment or enough of a down payment. With the current housing prices and the potential for interest rates to increase, borrowers may have to rely on alternative mortgage financing to consider purchasing particular properties. Sellers may attract buyers by offering to finance a portion of the purchase at a competitive interest rate. However, this is only possible if there is enough equity invested in the property.

So why would anyone seriously consider a vendor take-back mortgage for a home purchase? Here are several reasons:

  1. Buying Power – can help buyers buy a property that otherwise may not be affordable, such as larger homes with rental suites.
  2. More leverage with funds – buyers wanting to invest in numerous properties without tying up cash can effectively increase their return on investment.
  3. Easier to sell – the vendor can sell faster than waiting for someone to be fully qualified from a lender and they still can get a decent return on their money.
  4. Tax deferral – lower upfront capital gains for the seller since 100% is not collected in the first fiscal year.
  5. Lower Rates – vendor take-backs are usually lower rates for the buyer than going to other private lenders.
  6. Lower fees – a vendor take-back mortgage may be able to increase the down payment and effectively lower or eliminate mortgage default insurance fees.
  7. Family purchase – family home being sold to a family member with low or 0% interest loan.

However, there are also reasons why vendor take-back mortgages could not be a perfect solution:

  1. Government restrictions - It’s not usually an option with 5% down. The mortgage plus default insurance costs (2.75%-4.25%) topped with the 5% vendor take-back mortgage, a borrower is more than likely over 100% financing, which is not a legal option in Canada.
  2. Lender restrictions – Many lenders will not allow secondary financing behind their first mortgage, especially one that makes the property 100% financed.
  3. Qualification – The lender will calculate a payment for the mortgage and one for the vendor-take back mortgage even if the vendor take-back loan is from family at 0% financing or a zero payment. This may add challenges to mortgage qualifying.
  4. Closing costs - The buyer still needs to have funds available for all other closing costs such as legal fees, property transfer tax, and adjustments.
  5. Limited equity – There has to be enough equity in the property to make the vendor take-back an option for the seller.
  6. Vendor asset limitations – The vendor gains value by selling faster and earning interest on the money they have lent, however, they lose some liquidity from the sale of the home, which may be necessary in their future purchases.
  7. Risk – It can be a risky investment for the seller, especially if they don’t know the buyer.

Will we see the return of the vendor take-back mortgage? It’s definitely possible if housing prices remaining high and interest rates start to climb. We may also see assumable mortgages become a hotter item, especially if homeowners invested in a 10-year mortgage at this year’s rock bottom rates ranging from 3.89%-3.99%.

If you have any questions regarding a vendor take-back mortgage, don’t hesitate to contact me for more information.