Buyouts WITHOUT the Owelty…WHY?
I just had a case wherein the grantor (the party who was the recipient of a buyout for her interest in the marital residence) argued that she did not agree to an Owelty lien. She was supported by the contention that others had financed a buyout without an Owelty.
When the mediator called and told me the situation, I said “she’s arguing against her own interest.”
“I know,” said the mediator. “But I see this all the time.”
It's inconceivable and puzzling why a grantor would attempt to assert that the grantee be denied the means of financing while, at the same time, making a claim to the intended result of said financing. That’s right – the magic of the Owelty is its FINANCE-ABILITY not merely its security.
It was clear to me that the wife was arguing from spite or ignorance or both. But, she surely wasn’t arguing from logic or even her own best interest.
Because of two competent lawyers and a skilled/informed mediator, the wife was convinced to allow the Owelty. The information in this article was helpful to them in arriving at an agreement and a settlement.
However, the situation alerted me to the fact that there is still a lot of misinformation and lack of understanding about Owelty liens and buyouts.The fact is, the contention – that others had financed buyouts without an Owelty agreement – is correct. But, the fact that others have done it does not mean that anyone can do it. In fact, MOST PEOPLE CANNOT FINANCE BUYOUTS THIS WAY.
If a buyout is financed without an Owelty agreement established, such financing CAN ONLY be done with Texas Home Equity (or “Texas Cash Out”) mortgage financing.
But to clarify, it's a moot point as to IF someone can finance a buyout without an Owelty. Without exception - even if the borrow CAN - it would be inferior, restrictive and even "punitive" financing.
The problem is that many borrowers and most properties do not qualify for Texas Home Equity financing. You could take my word for it or you could take the primer about Texas Home Equity financing. See my blog about Owelties which explains the restrictions in Texas Home Equity financing.
The Two Major Reasons Buyouts Cannot Be Financed WITHOUT an Owelty
If a borrower does not qualify for Texas Home Equity financing then they cannot finance a buyout – PERIOD – unless an Owelty is in place (and they qualify for standard financing).
This includes (but is not limited to)
Borrowers with low credit scores
Borrowers with low scores (generally below 620 but sometimes below a higher score) do not qualify for conventional financing. And Texas Home Equity financing is ALWAYS conventional financing. It’s reserved for borrowers with a certain level of credit worthiness.
Many times, even if the borrower has qualifying scores, unless those scores are supremely high, they still cannot borrow because the “pricing” of their loan makes the numbers prohibitive. You probably just want to take my word for it here. But, for you geeks who like this sort of thing….here’s the explanation (the rest of you can skip this next paragraph).
Loans do not have rates – they have “prices.” This means that the rates are always the same (5% will always be 5%); but, the price for those rates change all the time. A particular rate either costs or it pays. The “price” for a loan is based on, first of all, the market on the day/time that the rate is locked. But, it is additionally set by the Loan To Value Ratio and the CREDIT SCORE. In Texas Home Equity loans, there is the provision that closing costs of no more than 3% can be charged to the borrower. If you know anything about economics, you know that government can set price controls but it cannot control costs. That is, if a loan amount of $100,000 is a Texas Home Equity, no more than $3,000 can be charged to the borrower. But, if actual costs are $4,500, where do we get the extra $1,500? We get it from the price of the loan (called “yield”). But, remember, price is set by LTV ratios and CREDIT SCORES. The problem is that low credit scores “eat up” the yield to the point that no more yield exists in the price of the loan with which to pay those extra costs. I’ve had scenarios in which our company would have had to pay money to do the loan. I don’t mean they would have had to take money out of what it made and pay extra. I mean that – starting from $0 – the company would have had to write a check. And, then they would have to pay me. I can’t even volunteer to do a loan for free, thanks to Dodd-Frank. The law requires that the company pay me a set percentage for each loan regardless of how much it made in fees and yield. That’s not pro bono, that’s pro Bozo.
The solution for many lower credit scores is FHA. But, FHA does not do equity financing. Too bad. End of story – no buyout. Period!
Borrowers with high debt ratios
Conventional financing is generally limited to those with 45% debt ratio maximums. A debt ratio (when stated as one figure verses two figures like 27/36) means the total debt ratio including the house payment. A debt ratio is based on minimal monthly payments required to satisfy outstanding debt (and obligations such as child support) as measured against monthly qualifying income. If a borrower’s debt ratio exceeds 45%, the most oft resorted to solution is FHA financing which is more lenient on debt ratios, often allowing up to 55% depending on other factors.
So, if a borrower has 46% debt ratio, he gets no conventional financing (most likely) and therefore cannot financing a buyout (which is not styled as an Owelty agreement).
Oooops. Susie didn’t want an Owelty. She couldn’t say why. She just didn’t want to do what Johnny’s Divorce-Lending Specialist said was necessary. So now, she has some nice white paper filed at the courthouse but no green money in her bank account. But, by golly, she’s forced the sale of the house.
Now, someone please explain to me how that’s in the best interest of the court, the family, children, society at large. The only person who benefits is the realtor who makes the sale. And even then, there’s not a lot of good will to go around in a forced sale. Moreover still, it’s easy to order a sale in a seller’s market. But, even in that situation, the court cannot order anyone to purchase the house. And what about buyer’s markets wherein prices are negotiated down not up?
It makes no sense. And, I’ve yet to hear a single argument against a buyout styled as an Owelty. It’s not often that you hear arguments for a point of view which has NO DOWNSIDE WHATSOEVER.
Now, I did have a conversation with a wonderful attorney last week whose client (and spouse) wished to retain joint ownership, realizing a net proceeds profit only later at such a time the then-divorced parties will sell their property. There are more “cons” than “pros” in that situation, it seems to me, but the point is – no Owelty was needed to secure wife’s interest because she was not parting with her interest at the time of divorce and needed no money for it. (Well, “need” is a matter of opinion and both the lawyer and I felt that the client should take the money sooner rather than later and remaining hitched at the mortgage/house). Still…
Special Construction of Owelties
In more than half of our cases involving buyouts, we have to recommend that the Owelty be structured in a unique manner; namely, by adding an amount to the net buyout to satisfy debt for the borrower – without which, he/she would not qualify for their loan because of high debt ratios.
It’s nearly unique to me. But, it has worked over and over again for more than a decade. If such debts are not satisfied through the Owelty, the borrowing of such money would trigger Texas Home Equity restrictions. Again, presenting an impossible situation for the financing of the buyout in most cases.
Folks, it comes down to this – does the grantor want his/her money or not? If they want their money, they need not disallow the means of my delivering it to them. It’s almost as if the winner of the lottery objects to FedEx delivering their check because they think it should come through the United States Postal Service. Deposit the flippin’ check.
More specifically – the VALUE of the property.
If a buyout is financed without an Owelty, Texas Home Equity restrictions apply. Amongst other limiting factors, the borrower cannot access the top 20% of their home’s value – the maximum Loan To Value ratio is set by law at 80%. So, if the amount needed to satisfy the first mortgage, closing costs, prepaid/escrow account AND THE BUYOUT ALONG WITH ANY DEBTS THAT MUST BE REFINANCED in order not to exceed maximum debt ratios, TOO BAD. If, on the other hand, an Owelty lien had been established, the borrower could access up to 97.75% of his/her home’s value if necessary.
I haven’t covered nearly all of the disadvantages to equity financing. Another one is the higher interest rate that is charged. I’m thinking that “Your honor, I understand that my ex is going to have to pay a higher interest rate but I’d rather XYZ Home Mortgage get an extra $75 each month than for that money to go to my children’s school supplies and clothes” doesn’t sound like a compelling argument to me.
Moreover, what interest does the court have in squeezing a payer (or receiver) of child or spousal support, pushing him or her closer to the point of financial difficulty? How does that protect anyone? It just makes no sense.
One last point…and I’m sure you’ve already thought of this
By resisting the establishment of an Owelty in a buyout, the grantor is arguing against having a security against his/her interest in the property. In such a case, non-payment is subject to a money judgment against the person (maybe....depending on how the legal case goes) but not against the property. As a legal layman, I cannot see how an informed court could possibly award a money judgment but deny the very means whereby such a judgment could be paid. Stranger things happen all the time I’m sure. But, the way my simple mind works is this – finding ways to get people the money they need through their mortgage financing in order to satisfy legal settlements. It’s about getting money to people.
If you have any questions about this, please do what this skilled mediator did yesterday – call me from the mediation. I was on a cruise and separated from regular phone service; but, because the mediator had WhatsApp, she was able to call me…I was hooked up to Wi-Fi on the ship. It worked like a charm. Now, I’m considering just running my office from a cruise ship about 40 weeks out of the year. You won’t see my face as often, but I haven’t had many complaints about that anyway.
The Mortgage Institute