The S.A.F.E. Act (Secure and Fair Enforcement for Mortgage Licensing Act) is very broad and it’s rules are almost constantly being changed by our politicians to hopefully improve it to become more reasonable to real estate professionals than what is allowed in its present form. It is very important to keep up to date with the changes to this Act. (( http://www.ffiec.gov/safeact.htm ))
This overview of the S.A.F.E. Act is based on a webinar done on February 22, 2011 by Donna Bauer and attorney, Jay Douglas Swob. Ms. Bauer, also known as “The Note Buyer”, is a seasoned real estate investor and educator. The full S.A.F.E. Act manual by Mr. Swob and continuing updates for it are available at her online store ( http://www.thenotebuyerstore.com ). As a disclaimer, the writer of this overview is not qualified, in any way, to render legal or financial advice. Legal and financial questions should only be directed to qualified individuals and it best to consult with these qualified individuals prior to using anything in this overview.
Key features of the S.A.F.E. Act include:
- This Act requires nationwide registration/licensing of any residential mortgage lender who offers or negotiates terms of a residential mortgage loan for compensation or gain. As investors, that would be us when we sell using seller financing and it would be sellers who sell to us via seller financing.
- This Act prohibits the seller financing of a residential property without being licensed as a mortgage loan originator. This includes selling with wraparounds, land contracts, seller 2nds, etc. This applies to people who assist in this process (investors) and hard money lenders who take back real estate as collateral.
Implications Of The S.A.F.E. Act To Real Estate Investors And Lenders
Most lending that was previously unregulated or loosely regulated is now regulated by the S.A.F.E. Act. This includes hard money lending, seller “carrybacks” (seller 2nds), and independent mortgage loan originations.
The S.A.F.E. Act is a federal law. While it imposes a general umbrella of regulation and requires meeting certain minimum requirements, it is up to each state to impose its own interpretation of the rules set forth in this Act. Most states have already implemented their own interpretations of the S.A.F.E. Act. Ironically, the federal government’s attempt to uniformly regulate mortgage lending has resulted in non-uniform regulations from state to state. Some states, such as Texas, have enacted laws that are even more restrictive than what is in the S.A.F.E. Act itself. Other states have enacted legislation that meets just the minimum requirements of the S.A.F.E. Act or have legislation that is very open to different interpretations so as to be almost useless. To further add to the confusion, there have not been enough cases to establish strong legal precedents regarding strict and uniform enforcement of the S.A.F.E. Act in each state. As an example of the chaotic and disorganized application of S.A.F.E. Act rules from state to state, the real estate licensing agency in South Carolina (aka L.L.R.) is very weak and people at as real estate agents without licenses regularly even though it is supposed to be against the law to do so. Now if South Carolina won’t enforce its own laws regarding real estate licensing, what are the chances that the residential real estate laws set forth by the S.A.F.E. Act will be enforced very strongly there as well? Not very likely at all, in this writer’s opinion.
The S.A.F.E. Act is intended to curtail the lending abuses in subprime loans that greatly contributed to the present mortgage mess and difficulties in the residential credit markets by more strictly regulating the financial derivatives that originated from subprime loans such as CDO’s (collateralized debt obligations) and CDS’s (credit default swaps, i.e., insurance for defaults on these loans). But it also restricts and governs activities of those who have nothing to do with subprime lending and hinders the sale of residential properties that would normally be facilitated by seller financing. In the federal government’s attempts to prevent another recession in the residential markets by more strictly regulating lending guidelines, it will most likely fail by making residential properties more difficult to sell by restricting seller financing. By restricting seller financing to the people who need it the most, the irony is that the S.A.F.E. Act hurts the very people that it was intended to help.
Ways For Real Estate Investors Use Seller Financing Without Breaking S.A.F.E. Act Laws
- Get licensed as a mortgage loan originator.
- Qualify for applicable exemptions from S.A.F.E. Act laws.
- Have a licensed mortgage loan originator do all your paperwork for seller financing.
Possible Exemptions from S.A.F.E. Act Laws
Exemptions can be at the federal or state levels. It may be possible to also say that something is exempt just because it is not prohibited by the Act.
Recent Dodd-Frank Amendments (federal amendments) seem to say that sellers can make a maximum of three (3) residential mortgage loans per year on properties owned by the sellers, i.e., sellers are allowed to sell up to three (3) residential properties with seller financing per year. A restriction is that this exemption is not allowed is the seller is a contractor who builds the house and then provides seller financing to sell it. Also, seller financed loans in this exemption must be fully amortizing, i.e., no interest-only loans. Other requirements include that the seller qualify the buyer with a minimum of credit report and income verification on record, and the loan must be have a fixed interest rate or a “reasonable” adjustable rate that does not increase for at least the first five (5) years of the loan term.
At the federal level, the S.A.F.E. Act does not appear to prohibit a balloon payment or an escalating payment schedule as long as the principal is paid down completely by the end of the loan term.
At the state level, registered financial institutions and their wholly-owned subsidiaries or holding companies appear to be exempt from S.A.F.E. Act laws. Another exemption is if you are originating non-residential, i.e., commercial or business, loans. In contrast to the federal Dodd-Frank Amendments that allow up to three (3) residential properties per year to be seller financed without a license, state exemptions appear to allow up to five (5) residential properties in a consecutive 12-month period to be seller financed without a license, but this should be checked on a state-by-state basis since each state has its own rules and interpretations of the S.A.F.E. Act.
Other exemptions from S.A.F.E. Act laws at the state level include seller financing by federal/state/municipal government agencies, any employee or employer pension plan making mortgage loans only to participants, anyone acting in a fiduciary capacity as conferred by the courts, and anyone negotiating residential loan terms for immediate family members.
Creative Exemptions From S.A.F.E. Act Laws (Exempt For Now But Could Change Soon)
- Forming a 501(c) non-profit organization to provide seller financing could qualify for exemption exempt since non-profit organizations that provide loans to promote education or home ownership don’t fall under S.A.F.E. Act rules. Government money gurus have been recently teaching that forming your own non-profit organization could help in obtaining grants. Exemption from the S.A.F.E. Act is another benefit to forming one. ( As of the time this overview was written, attorneys are exempt from S.A.F.E. Act rules in many states but HUD may rescind this soon.)
- Loan modification services are exempt from the S.A.F.E. Act since these services don’t originate loans but just recast them. This exemption can be used to get around the amortization restrictions as well as avoid the requirement to “prequalify” a borrower for ability to repay a mortgage loan. For example, after the closing the loan can be modified to be an interest-only loan with no penalties and/or the loan can be made assumable on a “no-qualifying” basis and assumed by a “no-qualifying” buyer without violating any S.A.F.E. Act rules.
- Another exemption is if you are selling to a business for non-residential purposes. For example, as long as the rehabbers don’t move into and live in the properties you flip, these are non-residential properties that you can sell to them with seller financing. This also applies to hard money loans that would use these properties as collateral as long as the rehabbers don’t move into and live in them.
- Another way to remain exempt from the S.A.F.E. Act is to employ a multiple-entity strategy. Each entity can sell up to three (3) properties with seller financing per year so you could use multiple entities to sell residential properties. Multiple entities for possible use include you, a relative of yours, LLC’s (limited liability companies), corporations, partnerships, IRA’s (individual retirement accounts), land trusts, living trusts, etc. The use of a land trust or LLC for this strategy should be done only after consulting with an attorney since some states may not recognize revocable trusts or single-member/family-owned LLC’s as separate statutory entities (e.g., my resident state, South Carolina, does not recognize single-member LLC’s or LLC’s that are entirely family-owned as asset protection vehicles).
- Other exemptions to S.A.F.E. Act rules include selling your personal residence, selling to a family member (but it is not recommended to marry someone just to sell a property to him or her), and selling through an attorney since, as of this writing, attorneys are exempt from S.A.F.E. Act rules.
- Another possible S.A.F.E. Act exemption is the use of land contracts and extended escrows but while some states don’t consider these to be completed sales, other states consider these to still be sales so this exemption should be considered only on a state-by-state basis. Some states will allow assignment of beneficial interest in a land trust without calling it a completed sale thereby qualifying as an exemption from the S.A.F.E. Act. The same is true with lease-options in that these don’t qualify as being completed sales and, as such, are exempt from S.A.F.E. Act laws.
- Equity sharing can also be a “non-loan” way to have a residential property seller financed to you, or you to an end buyer, with the effect being that of a “carryback” by the seller.
- Yet another creative way to be exempt from the S.A.F.E. Act is to sell to a LLC, use seller financing to “carryback” a note from the LLC, and then sell the membership interests in the LLC to an end buyer. When done properly, the collateral is not the real estate but rather the shares of the LLC become the collateral for the seller financing.