Deciphering the VA Lender’s Handbook Chapter 9 Part 4
Chapter 9 of the VA Lender’s Handbook is all about legal instruments, liens, escrows, and related issues. In fact, that’s the name of the chapter. In this article, we’re going to talk about how the VA works with land sale contracts and options contracts, as well as purchasing a property with Encumbrance(s). An encumbrance is an existing mortgage, charge, or lien on the property that will still be in place after the borrower purchases the home. The VA has pretty clear-cut rules on these types of purchases, and we’ll cover what you need to know here in this article.
If you’re interested in purchasing land with your VA loan, you’re in luck – the VA will guarantee a loan that is secured by nothing but grass and dirt. Day-to-day, a land purchase contract won’t operate much differently from a mortgage, but the process of getting one is very different. The contract must contain the same mandatory clauses as a mortgage, and the contract must be recorded. To understand the VA’s policies on land sales contracts, you need to understand the difference between a land sale contract and a mortgage. A mortgage is an arrangement where the borrower purchases a property and legally owns it, but also gives the lender a lien on the home, which allows the lender to sell the home if the borrower does not pay back the loan amount. in a land sale contract, the buyer does not own the home until the full amount is paid back.
A land sale contract usually works as follows: an initial period of fixed monthly payments, much like a mortgage, followed by a balloon payment that covers the remaining balance. Typically, the buyer gets a mortgage from a lender to make the remaining balloon payment, thus converting the contract into a mortgage, and acquiring ownership of the property. If you want to learn more about land sale contracts, I would recommend typing “mortgage vs. land contract” into google because discussing the respective benefits and disadvantages is beyond the scope of this article. However, now that we’ve covered the basics of land sale contracts and mortgages, the following statements in the VA Lender’s Handbook will make more sense:
VA may also guarantee a loan to refinance the unpaid balance under a land sale contract for the purchase of improved residential property, provided:
- the veteran will obtain title to the property described in the contract upon closing of the loan, and
- the obligation to be guaranteed is in the form of a note or bond secured by a mortgage or other acceptable form of security instrument other than the existing land sale contract.
If you have any more questions about land sale contracts, feel free to give us a call here at Low VA Rates and we’ll do our best to answer them. The other type of contract addressed at this point in the Handbook is an Option contract. Options are fairly easy to understand; normally, when you buy a house, the product you are paying for is the house and the lot it is on, yes? Much like when you go to the store to buy a bag of apples: the product is the bag of apples. In an option, the product you are buying is time. You are buying time to decide whether you want to buy the property. Think of Wal-Mart’s layaway program. If Wal-Mart charged for its layaway service, it would be exactly like a very small scale option. Buying an option on a property is essentially the same as putting the home on layaway; no one else is allowed to buy it unless you have not bought it before the amount of time you paid for has expired. Clear as mud? Good.
Now, when it comes to purchasing a property with encumbrances, the VA has a fairly clear rule: the VA loan must be secured by the first lien on the property. Other liens are allowed on the home, but must be subordinate to the VA loan. If this is not a possibility, then the VA will not guarantee the home loan. Also, the amount of indebtedness to pay off the liens, plus the lien that the VA loan will have on the home, cannot exceed the VA’s reasonable value of the property.