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“Subject To” deals are one strategy in a real estate investors toolbox. Every investor should know how these deals work and why they’re profitable.
11 min read April 16, 2024
In real estate investing, "Subject To" deals are a fast, cheap, and easy way to buy discounted properties without having to go through the hassle (and expense) of working with lenders or title companies.
But what exactly is a "Subject To" deal?
What are the risks involved?
That's what we're going to talk about in this guide.
Here's everything you need to know if you're a real estate investor.
By the way, you should know we have a "First To Market" challenge that will help you dominate your competition. and get to new homeowners first. These strategies are not for the light-hearted. and should only be used by those ready to take their real estate investing businesses to the next level. Learn more here.
Join Our "First To Market" Challenge Now!In real estate investing, a "Subject To" deal is when you buy a property "subject to" the current mortgage.
This means that you take over the payments on the mortgage, but the previous owner is still listed with the lender as the financially responsible party.
The most common way this works is that you, as the investor, agree to make all of the mortgage payments going forward (the lender is not informed of this transfer). So long as you continue to do so, you are the owner of the property for all intents and purposes.
This means you can fix it up, rent it out, and even fix and flip it.
What does the seller get?
Well, in addition to getting their mortgage payments covered (which, if they're in a difficult situation, means avoiding short sale or foreclosure), the investor also typically pays them the difference between the current market value of the property and their mortgage payment.
So if the buyer and seller agree the home is worth $100,000 and the seller still owes $80,000, then the investor pays them $20,000 in cash and takes over their mortgage payments (this is unnecessary if the seller owes more to the bank than their property is currently worth). Now the property is yours, the investors, to do with as you wish so long as you keep paying the lender.
Done right, this is a win-win: the seller gets to avoid foreclosure or bankruptcy and you get a property at a steep discount (not to mention, faster, and with a favorable interest rate).
There are two other ways a “Subject To” deal can work. We’ll cover all three types here shortly.
But first, let’s talk about the difference between “Subject To” and mortgage assumption.
In a “Subject To” deal, the previous owner is still liable for the mortgage.
This means that if you, as the investor, default on the mortgage payments, the lender can come after the seller for the money.
(The flipside is that the investor likely doesn't want to lose the property to the bank by quitting the mortgage payments. so there's natural buy-in from both sides)
However, in a mortgage assumption, the liability for the mortgage is transferred to you, the investor.
You might be wondering why the seller would ever be willing to do a "Subject To" deal instead of a mortgage assumption since that places a lot of the risk on their own shoulders.
There are various reasons.
Sometimes, the seller is underwater on their mortgage. This means they owe more to the bank than their property is currently worth.
In this situation, if they try to do a mortgage assumption, the bank is going to require that they pay off the difference between what they owe and what the property is worth in cash. Obviously, this is not ideal for a seller who is in financial distress to begin with.
In other cases, the seller might simply be in a hurry to avoid foreclosure or bankruptcy, and "Subject To" deals are much faster, simpler, and less costly than doing mortgage assumption.
Whatever the reason, it's important for investors to understand that there is a difference between "Subject To" deals and mortgage assumptions.
As we mentioned earlier, there are three different types of "Subject To" deals.
Here's how they all work!
This is the most common type of "Subject To" deal. and it's what we described earlier.
With this type of deal, the investor pays the seller the difference between the current value of the home and how much the seller owes on their mortgage.
Here's an example:
The Smiths own a home with a mortgage balance of $100,000. The home in its current state is worth $125,000. They want to sell their home because they're facing foreclosure.
An investor pays them $25,000 in cash and takes over their mortgage payments, becoming the "Subject To" owner of the property so long as they continue to make the mortgage payments.
The second type of "Subject To" deal is when the seller carries back a portion of the purchase price or finances the deal for the buyer.
This is often called "owner financing."
This is useful when the buyer doesn't have the cash to pay the full price of the home or when the seller wants to keep some skin in the game.
This is the least common type of "Subject To" real estate agreement.
With a wrap-around deal, the interest rate on the loan is calculated using the original mortgage loan, but with an extra premium on top.
The seller usually has to pay interest rates on their mortgage to their lender, so they in turn ask the investor for an additional, proportional interest rate.
For example, if the original homeowner's mortgage is at 4%, then the seller might ask for 6% from the carryback from the investor. When interest rates are low, this isn't much of a problem. However, if the sellers had high-interest rates to begin with, then it wouldn't be an ideal situation for the investor.
Let's get a little more specific.
Here are the benefits of "Subject To" deals for buyers and sellers (and why these types deals are becoming quite popular).
Get a property at a steep discount: Because you're not taking out a new loan, you're not paying any origination fees, appraisal fees, or other closing costs associated with getting a new mortgage. This can save you thousands of dollars on a single deal.
Take over an existing, low-interest rate mortgage: In many cases, the seller's mortgage will have a lower interest rate than what you could get if you took out a new loan. This is especially true if the property was purchased several years ago when interest rates were lower than they are today.
Get the property with no (or very little) money down: In a traditional real estate deal, you would need to come up with a down payment (at least 20% of the purchase price) or pay for the property upfront in cash. But with a "Subject To" deal, you can get the property with little or no money down since you're not taking out a new loan.
Can close quickly: "Subject To" deals can often be closed much faster than traditional real estate deals since you're not working with lenders or title companies.
Avoid foreclosure or bankruptcy: If the seller is in danger of defaulting on their mortgage, a "Subject To" deal can help them avoid foreclosure or bankruptcy.
Get rid of the property quickly: "Subject To" deals can often be closed much faster than traditional real estate deals, which is ideal for sellers who need to get rid of the property quickly (for example, if they're relocating for a job).
Get paid upfront: In some "Subject To" deals, the buyer will pay the seller a lump sum upfront for taking over the mortgage payments (assuming the property is worth more than they currently owe). This can be helpful for sellers who are in financial distress and need quick cash.
No repairs or renovations: Selling the traditional route, the seller would need to make any necessary repairs or renovations before putting the property on the market. But with a "Subject To" deal, the buyer takes on the responsibility for making any necessary repairs or renovations.
As you can see, there are benefits to "Subject To" deals for both buyers and sellers.
But that doesn’t mean there’s no risk involved.
Now let's take a look at some of the risks associated with these types of deals.
Don't get us wrong.
"Subject To" real estate investing is a tried-and-true real estate investing strategy. It works. and it works well.
But as with all real estate investing business models, there's risk involved.
Here's what you should know.
First off, the biggest risk for both parties.
Due-On-Sale Clause: One of the biggest risks to both parties associated with "Subject To" deals is the Due-On-Sale Clause. This is a clause written into most mortgage contracts that says the lender has the right to demand the full loan amount be paid if the property is sold -- which, in the case of a "Subject To" deal, it has.
Theoretically, then, the lender could demand that the seller pay off the full loan balance because the property has technically been transfered to you.
In this case, the seller's credit and the buyer's title are both at risk.
The good news is that most lenders never enforce this clause (probably because they don't want to go through the hassle and expense of foreclosing on a property). Generally, lenders will only enforce this clause if they feel like they're at risk of losing money on the loan or if their security is at risk.
If payments are getting made on-time, then you probably have nothing to worry about.
But it's still important to be aware of.
This is really the only risk that an investor faces in a "Subject To" deal.
Let's take a look at the risk for sellers.
Loss of home: The biggest risk for sellers is that they could lose their home if the buyer stops making mortgage payments (or if the lender enforces the Due-On-Sale Clause). But if they work with an honest investor, this is unlikely to happen.
Lower credit score: If the buyer stops making mortgage payments, the seller's credit score will be negatively affected. However, if the buyer makes all of their payments on time, the seller's credit score will actually go up since they're now being reported as current on their mortgage payments.
Liability: Ultimately, the seller is still on the hook for the mortgage payments. So if the buyer stops making payments, the seller will be liable for any late fees or other penalties.
Now that we've looked at the risks associated with "Subject To" deals, let's talk about how to mitigate them.
1. Get everything in writing: One of the best ways to mitigate risk is to get everything in writing. This includes the terms of the deal, the repayment agreement, and anything else that's relevant to the transaction. This will protect both parties if something goes wrong down the road.
2. Get insurance: Another way to mitigate the risk is to get insurance. It's more difficult to get insurance on a "Subject To" property, but it's not impossible.
3. Do your due diligence: As with any real estate investment, it's important to do your due diligence before entering into a "Subject To" deal. This means researching the property, the market, the neighborhood, and anything else that could affect the deal.
4. Research state laws: It's also important to research state laws, as they can vary from state to state. For example, some states require a due-on-sale clauses that are more lenient than others.
1. Work with a trustworthy investor: One of the best ways for sellers to mitigate risk is to work with an experienced investor. An experienced investor will own a lot of properties and will have a track record of successful investments. Ask a lot of questions.
2. Get everything in writing: As with buyers, it's important for sellers to get everything in writing. This includes the terms of the deal, the repayment agreement, and anything else that's relevant to the transaction.
The process for finding "Subject To" real estate deals is the same as finding any real estate deal.
"Subject To" (much like wholesaling, wholetailing, flipping, and BRRRR) is another wrench in the savvy investor's toolbelt that they can use when it fits the situation.
Here's a quick overview of the process most real estate investors use to find distressed properties.
1. Look for motivated sellers: The first step in finding a "Subject To" deal is to look for motivated sellers. The best opportunities for sub to deals are foreclosures, probate, and failed listings. Foreclosures and probates can be pulled directly from the county or other sources. Failed listings can be pulled from the MLS if you have access, or propstream. REISift customers can receive some records for free by request. Not an REISift customer yet? Sign up here to gain a competitive edge over other investors.
2. Skiptrace Records: Once you’ve identified the prospects, skip trace the records to obtain the owners contact information.
3. Market to Prospects: After obtaining the prospects' contact information, the next step is to reach out to them. This can be done by cold calling, sending SMS, or direct mail. (Pro tip: If you do not receive any results when skip tracing, re-skip using a different source or send out letters or postcards).
4. Make an offer: If the seller is interested in your offer, it's time to make an official offer. This will usually involve some negotiation back-and-forth before both parties are happy with the deal. You'll also need to negotiate the terms of the "Subject To" agreement.
5. Close the deal: Once you've reached an agreement, it's time to close the deal! In the case of a "Subject To" deal, this is actually very quick and simple. You'll sign a contract with the seller and start making their mortgage payments. Now the property is yours!
