Deposit Finance is where a seller ‘tops up’ a purchaser’s
funds to cover a ‘shortfall’ between the loan advance the
purchaser is able to obtain and the cash they have available
to pay the price payable to purchase a property or to pay
out vendor finance
- To set up the Deposit Finance form of vendor
finance, the buyer must qualify for a bank loan. The
bank loan might be ‘low doc’ which is up to 80% of the
value of the property, or 85% or 90%, or for commercial
property, 70%. The bank will take a first mortgage over
the property as security for the loan. The buyer’s bank
must not object to the Deposit Finance – buyer’s banks
do not normally object so long as they lend no more than
80% of the value / price.
- The Deposit Finance is documented by a Loan Offer, a
Mortgage and a Caveat, which are standard loan
documentation used by providers of Second Mortgages.
Usually the interest rate will be the same, or similar
to the buyer’s loan with the bank. But the term of this
vendor finance will be shorter – and the instalments
will be interest only, or principal and interest, with a
balloon payment at the end of the 2, 3 or 5 year term.
A property is advertised for sale at $250,000. A The
seller offers to assist the buyer to pay a 20% deposit
of $50,000, by the seller giving deposit finance, with
the remaining 80% of the price of $200,000 loaned by an
external financier. The buyer pays interest only of
$76.92 per week on the deposit finance, calculated at 8%
per annum on $50,000, and repays the $50,000 at the end
of 3 or 5 years out of savings or external financing.
Alternatively, the buyer pays instalments of principal
and interest of a higher amount than $76.92 per week,
and pays out the amount outstanding at the end of 5
years. This illustration is a deposit finance form of
vendor finance, which is used to fund the payment of the
deposit, documented by a loan offer and a mortgage.
How does Deposit Finance
work for owners and investors?
- Owners and investors are able to offer Deposit
Finance to buyers who qualify for a bank loan to pay
most of the price, but for some reason or other
cannot raise enough deposit.
- Owners and investors who offer vendor finance by
means of Deposit Finance, offer buyers the
opportunity to borrow the part of the deposit that
they have not saved, to buy the property.
- Owners and investors selling with Deposit
Finance transfer the legal title to the property to
the buyer. Therefore the buyer’s obligation to repay
the Deposit Finance needs to be secured over the
property. For this reason, the owner and investor
takes a mortgage security over the property to
secure the Deposit Finance, which because it ranks
after the first mortgage security that the bank
holds, is called a second mortgage security. This is
acceptable to the sellers because the amount
financed is relatively smaller than the first
mortgage, and should substantially represent the
premium above the cash price for the property.
How does Deposit
Finance work for buyers?
- If the buyer’s needs and indeed desires are
to buy a home and be able to move in straight
away, and all they lack is enough deposit, then
a House for Sale – Deposit Finance available
advertisement will appeal to the buyer.
- In this case, the buyer has chosen the form
of vendor finance known as Deposit Finance.
Deposit Finance is also known as a Second
Mortgage Carry-Back. Deposit Finance is
recognised as legally valid throughout
Australian and New Zealand.
- A buyer who is suitable for the Deposit
Finance form of vendor finance will be ready to
buy the house – ready in every way including
being able to qualify for a bank loan straight
away. All that stands between them and the house
is that they do not have enough deposit. The
seller is willing to bridge the gap between the
small amount of deposit the buyer has, and the
amount that the bank is willing to lend. The gap
is bridged as a vendor loan. And that is why it
is called Deposit Finance.
The seven things
you must know about Deposit Finance
- The owner sells the property, and
transfers the title to the purchaser, a bank
or similar financer finances 80%+ of the
price, and the owner finances the “deposit”
of between 5% - 20%.
- Deposit Finance is used to bridge the
gap between the upfront deposit paid by the
purchaser and the bank finance.
- Deposit Finance is documented by a
mortgage, which is similar to the bank
mortgage except that:
- it is usually a term of 3 to 5 years not
- interest payments are made monthly, with
the principal paid at the end
- the interest rate is often the same as the
bank rate and is often fixed
- Direct debit or paymaster authorities
are put in place to make the monthly
- The mortgage can be registered as a
second ranking mortgage after the bank
mortgage (which ranks first) or can be
secured by a registering a Caveat.
- Deposit Finance is generally known as
Second Mortgage (Carry-back Finance).
- Deposit Finance useful to finance
shortfalls on cash outs of Instalment
Contracts, and finance shortfalls at the end
of Rent to Owns.
documentation and risks in selling with
- finance from profit (80/20 rule)
- adopt bank interest rates
- interest only or P + I with balloon
- term (usually 3 or 5 years)
- clause in Contract for Sale or
- mortgage (and Caveat)
- enforcement options limited
- delays in payment
- shortfall on sale
- mortgage insurance
- bank loan requirements