SELLER FINANCING UNDER THE TRUTH IN LENDING ACT
DETERMINING IF THE RESTRICTIONS ON SELLER FINANCING APPLY TO YOUR TRANSACTION
Regulation Z was issued to implement the federal Truth in Lending Act (TILA). Generally, Regulation Z applies to consumer credit transactions secured by a dwelling; however there are exemptions to this general rule (see below). A “dwelling” is defined as a residential structure that contains one to four units, whether or not that structure is attached to real property. The term includes an individual condominium unit, cooperative unit, mobile home, and trailer, if it is used as a residence. The following transactions are EXEMPT from Regulation Z
The purchase of properties acquired strictly for business purposes, such as commercial and investment properties that will NOT be owner-occupied, even if such properties include a dwelling;
Owner-occupied rental property containing more than two housing units;
A home purchased for use as a second or vacation home if the buyer intends to spend 14 or fewer days in the home in the coming year;
Land bought primarily for agriculture purposes, even if it includes a dwelling;
Homes purchased by an estate, trust (with the exception of a land trust), corporation, partnership, association, church, union or fraternal organization.
HOW TILA IMPACTS SELLER FINANCING
The Dodd-Frank Wall Street Reform and Consumer Protection Act (Act) was signed into law on July 21, 2010. The Act amended TILA by adding provisions that define and govern loan originators. The term “loan originator” does not include seller financers who provide seller financing on three or less dwellings in a 12-month period provided that certain criteria are met. The set of criteria that applies depends on the number of dwellings for which the seller is providing seller financing in a 12-month period. There are specific requirements for a seller providing seller financing for no more than one dwelling in a 12-month period and additional requirements for those sellers providing seller financing for two or three dwellings in a 12-month period. These new provisions became effective January 1, 2014.
The 1-in-12 Exclusion is only available to natural persons, estates and trusts. Corporations, including limited liability corporations, may not utilize the 1-in-12 Exclusion. Under the 1-in-12 Exclusion, the following criteria apply: 1) the person providing the seller financing must NOT have constructed or acted as a contractor for the construction of the dwelling in the ordinary course of business of the person; 2) the payment schedule must not result in negative amortization (however, balloon payments (defined below) ARE permitted under the 1-in-12 exclusion), and; 3) the interest rate may be a fixed or adjustable rate, but if the rate adjusts, it must not adjust any sooner than five years, must be determined by the addition of a margin to an index that is widely available and must be subject to reasonable adjustment limitations. Safe harbors under TILA allow an annual rate increase of up to two percentage points with a lifetime limitation of an increase of six percentage points, subject to a minimum floor as negotiated by the Buyer and Seller and a maximum ceiling that does not exceed the usury limit applicable to the transaction.
The 3-in-12 Exclusion is available to natural persons, estates, trust and corporations. It has the same restrictions as the 1- in-12 Exclusion as set forth above with two additional criteria. Under the 3-in-12 Exclusion, there can be no balloon payments. In addition, the seller must make a good-faith determination of the Buyer’s ability to make the required payments. A balloon payment is defined as a payment that is more than two times a regular periodic payment. A seller may opt to generally review the buyer’s current or expected income from employment, government benefits and entitlements and incoming earning assets and the buyer’s monthly financial obligations OR may utilize the specific ability-to-repay criteria set forth in Regulation Z of TILA.