Financing Alternatives for Your 1031 Tax Exchange

Over the last few decades, lenders have created a variety of mortgage alternatives to the traditional 30-year fixed rate loan. If you are looking for financing for your 1031 Exchange Replacement Property, you should familiarize yourself with the following mortgage alternatives;

Adjustable Rate Mortgage (ARM)-

Adjustable rate mortgages are loans whose interest rates get periodically adjusted to reflect changes in the economy. They are typically adjusted in correlation with the movement of an index such as the London Interbank Offered Rate (LIBOR), a published prime rate, the interest rate on US Treasuries, etc. ARM’s are structured so that both the borrower and lender share the risk of changing economic conditions.

Buy-down Loan-

A buy-down loan is a loan made by a lender at a lower interest rate for a certain period of time in exchange for a larger upfront fee. Sometimes homebuilders pay lenders these fees in order to induce homebuyers to purchase their homes.

Cashflow Mortgage-

A cashflow mortgage is a mortgage in which the lender does not receive interest payments from the borrower, but rather the cashflow generated from the rental operations of the property.

Convertible ARM-

A convertible ARM is an adjustable rate mortgage that gives the borrower the option to convert the ARM into a fixed rate mortgage at a certain point in time during the life of the loan. The conversion usually costs the borrower a fee, and the interest rate is determined in the loan agreement

Escalator Mortgage-

Escalator mortgages are loans whose interest rates get periodically adjusted to reflect changes in the economy. They are typically adjusted in correlation with the movement of an index such as the London Interbank Offered Rate (LIBOR), a published prime rate, the interest rate on US Treasuries, etc. ARM’s are structured so that both the borrower and lender share the risk of changing economic conditions

Equity Participation Loans-

A participation loan is a loan that bears a lower rate of interest in return for a proportion of the equity proceeds of the property. The lender could receive a portion of the cash generated from rental activities, or a portion of the property’s sale proceeds. This enables the lender to participate in the upside potential of the property while simultaneously minimizing their downside risk. A borrower, on the other hand, could benefit from the lower interest rate in the earlier years of the property’s operations.

Graduated Payment Mortgage (GPM)-

Graduated payment mortgages are mortgages that are structured to have lower payments in the earlier years that gradually get larger throughout the life of the loan. A lender may structure a loan this way to compensate for expected increases in inflation. A borrower may be interested in a graduated payment mortgage if their income is expected to increase over time.

Growing Equity Mortgage-

A growing equity mortgage is a loan in which the payments gradually increase each year. These additional payments are applied to the principal portion of the loan (borrowed amount) and speed up the repayment process. GEM’s are repaid faster than traditional level-payment mortgages

Interest Only Loan-

An interest only loan is a loan that only requires the borrower to make payments on the interest that is due. The loan is not amortized. At maturity, the entire outstanding principal balance is due in the form of a balloon payment

Mezzanine Loan-

A mezzanine loan is a loan that is subordinate in repayment priority to a senior loan, but is higher in priority to other junior loans. In real estate, mezzanine loans are often secured by the partnership or property owner rather than the property.

Open-end Mortgage-

An open-end mortgage is a mortgage whereby the borrower may borrow additional funds from the lender, if needed, during the course of the loan. Usually there is a maximum amount available to the borrower that is agreed upon during the loan negotiation period

Reverse Annuity Mortgage-

A reverse annuity mortgage is a loan in which the lender makes payments to the borrower, thus causing negative amortization. These loans are designed so that the borrower receives monthly income for a set period of time, and then pays off the loan in full at maturity. See negative amortization.

Shared Appreciation Mortgage (SAM)-

A shared appreciation mortgage is a type of mortgage that gets adjusted with inflation (similar to a PLAM). With a SAM however, the lender gets a percentage of the appreciation in property value of the collateralized real estate as a result of the increase in inflation.