Christian and Cody Osgood compare seller financing and subject-to deals for real estate investing. They argue subject-to adds risk through due-on-sale clauses and reliance on distressed sellers, while seller financing is simpler and lower-risk. Both hosts built portfolios of over 100-150 units using seller financing alone.
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If you want to add steps, subject-to is a way to do that. You can buy more deals that we're not going to touch, but you're not going to buy the same type of real estate that we're buying either. Today we're talking about the pros and cons of seller financing and subject-to clauses in a real estate contract.
I'm Christian Osgood. This is Cody Osgood. Welcome to The Multifamily Strategy. Here we go. So what is subject-to and seller financing? We've done videos on this before. However, we're going to dive into this again really quick and give you a recap. Cody, what is seller financing and what are the conditions that we need to do a seller finance deal?
Seller financing, or if you're out of the states, vendor financing, is where you go up to someone who has low to no debt and they transfer title with free and clear title. I mean, there's no liens on the property, they are not in distress, their property is doing okay, and they're going to take payments over a certain period of time. The way you establish these payments is what's called a promissory note, a promise to pay. Problem with the promise is it's only as good as what backs it. So typically you have a promissory note and a deed of trust, which lets them put a lien against title so that you can't sell it without paying them off.
Now, limitation here, seller financing we can't do if they have existing debt on the property. Now, if you have a down payment that pays off that existing debt, you're good to go. So you're really looking for no to low debt on the property. At the time of close, which is where people look for workarounds. And there are several. One of the most popular is— it's actually a term in a contract for deed. It's a clause that's called subject to, which means you keep their existing debt in place. What does this look like practically, Cody?
Well, I write a real estate contract, and I have a few real estate contracts on deals that we do. We did it instead of seller financing. However, they still had no debt., and in part of the contract, there's a line that says assumed obligations. If there was obligations that were not going to your name, but they're staying in the seller's name, and they were not going to pay it off during the closing process, there'd be a subject-to clause that would outline how they have to handle their obligation, and then we would make payments to them on a real estate contract of sale for the remaining piece until we pay them off, and then they get off of legal title, we get legal title in addition to our equitable title that we had the whole time.
So let's weigh these against each other. Seller finance versus subject to. I'm going to give you the punchline right now. Subject to is subpar. It's a strategy that involves circumventing the bank, and it breaks one of our first principles of real estate, which is we don't add steps. And subject to adds both risk and steps that we don't need to move forward. There are more than enough deals to do without subject to where you don't have to do it. Another reason that we don't look at subject to is our whole strategy relies on working with masters of the game, learning how they got to where they're at, replicating their strategies, and using it to advance forward with players who have already mastered the game. Now, the problem with subject-to is you're typically working with distressed sellers and people who are in the process of losing their real estate. Do you want to learn from masters, or do you want to learn from losers?
I want to learn from masters.
I do too. And while I'm not knocking anyone who— I mean, Bad things happen to properties. People do lose real estate. You don't always win.
And bad things happen to great people. Mm-hmm. It happens. But I don't want to just learn and build my whole business model off of people that are losing their real estate. No. I want to learn and build my business model off of all the people, good people. There's people that aren't good people that have done very well, but I can still learn best business practices from them. And so I would rather learn from the people that are doing really well with their money money isn't everything, but it sure does help put food on the table. I want to be able to learn from those people, and then I can figure out how to go help the other people. But if you don't have the money, it's hard to help the people that are losing their real estate. Yeah.
So functionally, to break this down, things that can go wrong in subject-to. So you have a seller who for some reason has either mismanaged or something wrong has happened with their property. They have to let it go, but they're keeping their existing mortgage in place, which means they are still the name on the loan that is being paid. So what happens if they stop paying that loan? Now, there are things you can do to help avoid this, but let's just say that gets stopped for some reason.
We've had so many people that have reached out to us because the person they bought from stopped paying their mortgage.
Now, a common thing I hear is, okay, well, what if you just pay their mortgage directly from escrow? I've still seen people circumvent that, cancel it, find a way to take the money, put it in their bank account, not pay the mortgage, Well, then what do you do if you're the bank? The mortgage isn't being paid. I'm going to reach out and say, "Hey, why aren't you paying your mortgage?" If I'm that person who just offloaded my property, I have two options. I'm going to say, "Well, we did subject to and I don't actually own it anymore," which means, "Uh-oh, it's a callable deal." Or I come up with some lie and now there's a whole investigation where they're going to find out what we already know. The property traded. You do trigger a due-on-sale clause when you do this. Now, whether or not the bank triggers it, that's a different story because on a contract for deed, it's not going to record on title the same way. They may or may not find out, but is that something you're willing to roll the dice on? Because that is the type of stuff that can go wrong in a subject-to transaction.
Absolutely. And if you're big enough to write a check for the loan, great. However, most people can't. I know we can't. We can't just write a loan for $12.5 million of debt that we have. So if we did that on our whole portfolio, that puts us in risk of losing it. If you're getting started, I would just skip the whole process of getting that creative and just play the game the old-fashioned way with traditional seller financing, because there's a lot less risks associated with it, a lot less pieces in it. That's our number one rule: we don't add steps. If you want to add steps, subject to is a way to do that. You can buy more deals that we're not going to touch, but you're not going to buy the same type of real estate that we're buying either. Yeah.
Now, what you really need to do when you're deciding your strategy, whatever you end up doing, I want to caveat this with subject to is absolutely a legal strategy. You can do this. This isn't illegal to do. It just has risk where you can trigger some due-on-sale clauses and there's some other chaos that can happen. What you really need to do is go back to the beginning, write out your goal, map your way to it. How much cash flow are you really after? How much real estate is going to take you to get to that cash flow number? When you've mapped that out, now it's time to decide what strategies do I want to implement to get there. For us, we're at over 100 units. Pretty soon we're going to be over 150 units. We also have a resort. We've done all of this with seller financing without touching a subject-to clause.
We've also done it sub-60% LTV for the duration of our portfolio together. We've kept our stuff below 60%. We're not leveraged to the hilt like a lot of people online. You can absolutely play the game however you want, but make sure that if you're going to figure out how to buy the real estate, do enough due diligence so that you never lose it.
Find a strategy that works for you. For Cody and I, it's tens of thousands of dollars a month of cash flow. It's enough where I was able to retire my wife, retire myself. Cody's never even had a job, so he started retired, and he's retiring his mom this year. We can hit all of our goals without touching that clause. If you're going to do one strategy and you're not starting with a whole ton of money, I would look at seller financing or contract for deed without a subject-to clause.
Absolutely. That's it for today's video. Make sure you build a strategy that works in every business cycle. If you'd like to learn how to do that for yourself, check out our little PDF. It's free. Click the link down below and subscribe to our channel, and we'll see you next time.
