Mortgage loan agreement application with house shaped keyring

ITIN Mortage Investing

February 18, 2019

Background

Currently there are close to twenty million undocumented immigrants in the U.S., according to the U.S. Government Immigration Service.  The average time that it takes an undocumented worker to become a U.S. citizen is seven years.  During this process the undocumented workers must rent a home, rent an apartment or stay with a family member.  Many want to purchase homes but find that traditional financing is not available.  In fact, nine out of ten traditional housing loans are denied to these immigrants because they are not U.S. citizens and are considered flight or deportation risks.

The Individual Tax Identification Number (ITIN) is a tax processing number issued by the Internal Revenue Service (IRS) to ensure that people – including unauthorized immigrants – pay taxes even if they do not have a Social Security number and regardless of their immigration status.

Other purposes the ITIN can serve:

  • Opening an interest-bearing bank account; individuals who do not have a SSN but do have an ITIN can open interest-bearing accounts.
  • Securing a driver’s license; some states have allowed the ITIN to be used instead of a SSN in order to receive a driver’s license, driver’s permit or state identification card.
  • Providing proof of residency; at some point in the future an immigrant may need to prove how long he or she has been in the United States. Having a tax return filed using an ITIN is one way to prove residency.

There is a growing investment community, including Quire Capital, which seeks to assist ITIN individuals in acquiring homes of their own.   In Oklahoma, this assistance comes in the form of purchasing the homes then providing financing to the ITIN individual.  The provided financing comes by way of a Contract for Deed or a Lease with an option to purchase.  This is essentially a “rent to own” situation.  Tenant/borrower contracts include sizable down payments (15% to 25% of the purchase price), monthly payments that include taxes and insurance and requirements for tenants/borrowers to complete any and all maintenance issues.

In Texas, contracts for deeds are legal but are not the ideal instrument for this type of transaction because of the legal and regulatory environment. Instead in Texas, the investor community acts as the lender for the property by issuing a traditional mortgage.

The target tenant/borrower in this program must meet specific qualification guidelines that typically include higher hurdles than required for traditional mortgages/loans.  These qualifications are in addition to the due diligence performed on the purchase of the home.  The borrower/lessee must have net earnings equal to at least three times the required loan payment.  They must show residency of at least two years at the same address, and the landlord must submit a positive report of that residency.  The individual  must have a good work history with a minimum of two years at the same job.  In addition, the individual must have a clean criminal background.  Preferably, the tenant/borrower also has children born or residing in the U.S.

The target properties will be three bedroom, one and a half bath homes.  The properties must pass due diligence including comparable values to other homes in the immediate area.  Last, the homes must be move-in ready.  The borrowers/tenants move into the property upon execution of the contract or mortgage.

Transaction Terms

Investors provide this liquidity due to the risk versus reward of the investment.  After the tenant/borrower’s down payment, an investor’s investment is approximately 80% of current value.  The yield on the contract is between 9.95% and 12.00% generating hefty returns to investors. 

The typical transaction occurs as follows in Oklahoma:

  1. The investor forms a special purpose entity (typically a LLC or Series LLC) that acquires the home at issue;
  2. At closing, the purchaser/renter pays 15% to 25% down;
  3. The investor pays the balance;
  4. The investor then finds back end financing in the form of a traditional commercial loan for approximately 50%-60% of the Investor’s balance (e.g. 40%-50% of LTV to the bank).  The financing bank is given a first-in-line lien on the property and splits all interest payments based on participation interests. On liquidation of the property (whether due to paying off the lease/mortgage or in the event of eviction and sale), the bank is paid first from the proceeds.  This allows the investor to leverage the rate of return between what is paid to the bank and what the borrower pays to the investor.

Example:  An individual wants to purchase a $100,000 home.  The investor forms SPE 1 to purchase the home.  At closing, the investor pays $100,000 and obtains title to the property.  Simultaneously at closing, the individual executes a lease to own contract with SPE 1, with a down payment of $20,000.  The investor then obtains a
commercial loan from a financing entity for $40,000 and issues a deed of trust to the financing institution to secure the property.

The typical transaction occurs as follows in Texas:

  1. At closing, the purchaser pays 15%-25% down;
  2. The investor pays the balance and obtains a primary mortgage on the property;
  3. The investor participates the mortgage for approximately 50%-60% of the Investor’s balance (e.g. 40%-50% of LTV to the bank).  The financing bank is given a first-in-line lien on the property and split all interest payments based on participation interest.  On liquidation of the property (whether due to paying off the lease/mortgage or in the event of eviction and sale), the bank is paid first from the proceeds. 

Example
An individual wants to purchase a $100,000 home.  At closing, the individual obtains title to the property, pays $20,000 to the seller, the investor pays $80,000 to the seller, and obtains a deed of trust. Simultaneously at closing, the partner finance institution participates 50% of the loan ($40,000) transferring to the investor in exchange for a full first-in-line position in the event of foreclosure.

Moral Considerations

One principal criticism is that help should not be given to unlawful residents. These critics prefer efforts be focused on deportation.  Our view is that these unlawful residents deserve help the most.  They’ve been here for years, sometimes decades.  They hold steady jobs.  They pay taxes via ITIN tax returns.  More often than not, they are also in the process of obtaining lawfully residency (investors strongly prefer those who are in the process for citizenship).  Many have been diligently following the citizenship/lawful residence process for years.  If the process for citizenship in U.S. was based on a merit system, these are the people that would be at the front of the line.  They work, pay taxes, don’t break the law, are upstanding members of society, and they are contributing to the economic gain of society.

The other criticism is that these loans “take advantage of immigrants,” by charging interest rates above traditional mortgage loan rates.  However, these critics fail to realize that without these investors, immigrants would not be able to purchase a home.  They would be stuck in the rent cycle until obtaining citizenship/legal residency and social security numbers.  All individuals are fully informed of interest, interest payments and how the transactions work.  Further, there are no pre-payment penalties, permitting the loan to be paid off early or to be refinanced once qualified for a traditional mortgage.  These interest rates exist because of the increase risk involved.  Investors participating in these transactions are providing desired liquidity where none exists.

Typical Returns and Risk

Investors typically target an average of a 12% to 15% return, secured by the physical property.  As is typical in single family mortgage investing, investors can expect a monthly or quarterly distribution and a return of capital at the end of the investment.  Given the fact that this is real estate investing, investment tends to be less liquid than investing in stocks, bonds or other publicly traded instruments. 

In these transactions, the principal risk is the same as with all single family real estate investments.  Such risks include:

  1. default on the loan documents;
  2. risk of principal post foreclosure in the event underwriting mis-valued the home or property values have declined;
  3. damage to the property by the owners/occupiers;
  4. interest rate risk;
  5. regulatory changes; and
  6. those unique to this type of investment (i.e. risk of property abandonment, leaving the country and/or deportation).

These risks are limited by strict underwriting, large down payments and well-executed property management.

If you have interest in diversifying investment classes or questions on the above, please contact us.

Christopher Welsh is a licensed investment advisor and president of Lorintine Capital, LP. He provides investment advice to clients all over the United States and around the world. Christopher has been in financial services since 2008 and is a CERTIFIED FINANCIAL PLANNER™. Working with a CFP® professional represents the highest standard of financial planning advice. Christopher has a J.D. from the SMU Dedman School of Law, a Bachelor of Science in Computer Science, and a Bachelor of Science in Economics. Christopher is a regular contributor to the Steady Options Anchor Strategy and the Lorintine Capital Blog.