The SAFE Act – Are the days of seller-financing over?
I got a phone call the first week of July that went something like this:
“I’ve sold my duplex near campus and want you to write up a contract,” the caller told me.
“What kind of contract?” I asked, wondering if the caller meant an offer to purchase.
“You know, a contract where the buyer pays me monthly installments then balloons in five years. My buyer has good income but his credit isn’t great, so he can’t get a loan at a bank.”
“Have you ever lived in the duplex?”
The caller laughed before saying, “No, it’s a student rental.”
“Are you a licensed mortgage loan originator?” I went on.
Another laugh. “Of course not. I manage a pizza place and own student rentals on the side.”
“In that case, you can’t sell on contract,” I told him, “or deed the duplex over and take a mortgage back.”
“That’s crazy. I must’ve bought or sold on contract 10 times.”
“Can’t do it anymore. Not since July 1st.” Then I told him about Indiana’s new SAFE Act.
Bad loans, the Feds & HUD
The Secure and Fair Enforcement for Mortgage Licensing Act of 2008 (the SAFE Act) is federal legislation growing out of the recent mortgage loan crisis and is a response to the perception that a lack of oversight of mortgage loan originators (not necessarily actual lenders) contributed to the problem.
The Federal SAFE Act requires all states to come up with their own legislation to govern and control mortgage loan originators (MLOs) or to allow HUD’s version of the legislation to control. Each state’s legislation must be compliant with the Federal SAFE Act, and HUD is responsible for ensuring compliance.
Indiana’s version of the SAFE legislation is contained in Article 9 of the Indiana Administrative Code (750 IAC 9). This means Indiana’s legislation is a “rule” not a “statute”. The rule has been promulgated by the Indiana Department of Financial Institutions (DFI) and requires MLO licensure by July 1, 2010.
What does 750 IAC 9 say?
To get a grip on the new limitations on contract sales and seller-created purchase money mortgages, real estate practitioners should read the rule. Build in some time though, because it’s 20 pages long. The rule is too comprehensive to analyze here in detail, but the main point is that selling on contract or by taking back a mortgage on a 1- to 4-family dwelling is all but prohibited – unless the seller is a licensed MLO.
Whether this is an unintended consequence is hard to say, but given the wording of the rule, it’s unlikely. This is because, in the words of the DFI’s FAQs, “An MLO is an individual who, for compensation or gain, engages in taking a mortgage transaction application or offering or negotiating terms of a mortgage transaction.” Pretty broad, right?
And there’s more. The FAQs go on to say that a “Mortgage Transaction means a credit transaction (loan or credit sale) that is or will be used by the debtor primarily for personal, family, or household purposes and is secured by a mortgage, land contract, or other equivalent consensual security interest on a dwelling or residential real estate. A mortgage transaction includes a credit transaction secured by a mobile home, and a home improvement credit transaction secured by a mortgage or equivalent security interest on the home.”
The actual rule goes further, stating that a “mortgage transaction” includes a security interest “…on a dwelling or residential real estate upon which is constructed or intended to be constructed a dwelling.” (I added the italics.) So, does that mean a person can’t sell a vacant lot on contract? Sounds like it. At least if a residence is going to be built on it.
Happily, there are situations where Indiana’s SAFE rule doesn’t apply – but not many. Among them are transactions:
- primarily for non-personal, -family, or –household purposes;
- primarily for business, commercial, or agricultural purposes;
- originated by depository institutions (banks and credit unions) and the Farm Credit Administration;
- involving the government;
- involving family members;
- involving property that was the lender’s residence; and,
- involving attorneys negotiating for clients unless the attorney is paid by a lender, mortgage broker, or MLO.
So, the good news is an owner can sell his or her own residence on contract or by taking a mortgage back. The bad news is, if the seller hasn’t lived in the property, he or she can’t.
Who are the mortgage police? The DFI. Civil penalties can go up to $10,000 per violation. Restitution can be ordered. What would restitution amount to? Nobody knows at this point, but presumably the offending creditor would have to give the debtor’s money back. Not a good thing, if you’re the creditor.
At this point, the best thing to do is brush up on the new rule and steer clear of trouble.
- Morrie Erickson