How to Protect Yourself Against a Seller Borrowing Against a Property?

I recently got a great question from Kyle who recently bought the How to Buy Owner Financed Homes…

How can I insure the seller has no way to barrow against the home or change anything with their lender?

I thought I would share the response:

There’s a couple of ways to do this…

First you want to file a memorandum of option or memorandum of agreement on title on the property. This will typically only protect you against a refinance though. If they have enough equity they could possibly try to get a second mortgage or a line of credit…

Most lenders will do a title check and if anything comes up they start asking questions, if you have contact info in the memorandum you file they typically will try to get in touch with you.

Another thing is to add yourself as an additionally insured… although this will only inform you after something has already happened but usually when new financing is acquired the insurance is updated.

Your best bet is to write into the contract that the seller/owner cannot further encumber the property in anyway whatsoever. And then put stiff penalties if they do. If a seller backs away from that then I would respond with something like…

“I guess I’m surprised that this would concern you, were you planning on refinancing the property?”

All of this assumes though that you aren’t doing a contract for deed type of deal. Because with those you typically file that with the county and this stops a good percentage of these issues… except:

Let’s say someone has a good relationship with a bank and they want to get a line of credit. The bank might put a blanket security against all the property holdings someone has to protect themselves and in this case they don’t really care if you have interest or not as they are just looking to spread the risk to as many assets as possible. This typically isn’t a problem because when you cash out you just have that one property removed from the blanket protection, but it becomes a problem if the person defaults on the line of credit or something else goes bad.

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