Delayed financing: What it is and how it works

Across the U.S., anyone who’s tried to purchase a home recently knows the pain of the housing shortage. Inventory is tight, prices are up nationwide and competition is fierce. Cash buyers are pushing out loan-dependent bidders, inspiring buyers to find creative ways to make the strongest offers.

One option is delayed financing, which allows buyers to make a compelling offer while still borrowing money to purchase a home. Essentially, this means you buy a house with cash, then get a mortgage after you close and get your keys.

If it sounds a little complicated, that’s because it is. So let’s take a closer look at delayed financing, how it works, and how it can give a homebuyer cash power.

What is delayed financing?

Delayed financing reverses the usual process of obtaining a mortgage and then closing on a home purchase. In a delayed financing scenario, buyers purchase a home first, then set up the mortgage second — after they’ve moved in. They still have to come up with the money to pay for the home with cash (or in some cases, stocks or other financial assets). But they can then they effectively reimburse themselves with the mortgage money.

Essentially, delayed financing lets homebuyers reap the advantages of being an all-cash buyer while still getting the benefits of using a mortgage to keep more of their capital liquid.

Delayed financing deals are very similar to buying a home and then doing a cash-out refinance. In both cases, you’re setting up a new mortgage for a house you already own. As a result, you can expect to pay interest rates similar to the prevailing rates for cash-out refis.

How does delayed financing work?

The delayed-financing process begins with a homebuyer coming up with the funds to purchase a home in cash. How they do so is up to them:  They might choose to use savings or sell off other assets, such as stocks or properties.

The next step — securing the delayed financing — is pretty much like applying for any mortgage. The borrower needs to supply the same financial information and proof of employment. They’ll also need to undergo a credit check.  As with any financing, borrowers must maintain the integrity of their credit and employment status between the time they buy the house and when they get their mortgage.

Delayed financing eligibility requirements

There are some additional steps in a delayed-financing mortgage. You need to align with certain criteria. Fannie Mae, for example, sets guidelines around delayed financing, including that:

• Your original purchase was an “arms-length” transaction, meaning you didn’t have a personal relationship with the seller
• You can document the source of the cash (for example, bank statements or personal loan information) used to buy the property
• You don’t obtain a mortgage higher than the total of the purchase price, closing costs, points and fees
• The property doesn’t have any liens

Who is delayed financing best for?

Delayed financing “is an option, not a necessity, and it can be a big benefit for the right clients,” says Allen Seelenbinder, divisional sales executive for Bank of America.

Who is “the right client”? Obviously, someone of means — who has financial reserves in the form of liquid assets or outright cash. You don’t necessarily have to sell stocks or bonds to come up with the ready money though. Buyers can leverage investments for delayed financing, Seelenbinder points out. For example, Merrill, the wealth management arm of Bank of America, allows clients to take out a line of credit against their securities. That line of credit can fund as soon as the next day.

“We have clients who purchase a home for $1 million with securities-based lending, come back to us and we do a delayed financing at a percentage of that purchase price. It pays off their credit line and they get a fixed rate under the same conditions as if they did a purchase transaction,” Seelenbinder says. “And they’re not hit with the additional fees as they would be with a cash-out refinance.”

In this sort of scenario, there’s no capital gains tax because the assets are not actually being sold, and so no profit is realized. Borrowing against assets could be a better strategy than liquidating them outright, which could end up costing a bundle in taxes.

One common example, says Seelenbinder, is an heir who inherits significant stocks and stock grants. These often have a low cost basis (the original value of an asset, used to calculate any capital gain upon selling). “Once they sell those at current market price, that capital gain becomes a taxable event. If they use that cash to purchase the home, then, yes, we could do delayed financing to get the cash back; however, it could actually cost them more,” Seelenbinder says. “In most cases, there are other avenues for them to avoid or diminish those tax consequences, and a CPA or lawyer would be able to advise them on that.”

Ultimately, delayed financing is best for people who can come up with the cash to make it happen, and who have financial experts in their corner to guide them through the process.

Pros and cons of delayed financing

Pros

• Affords the advantages of all-cash offers: more attractive to seller, faster closing
• No six-month waiting period to obtain the money, unlike a cash-out refinance
• You obtain a regular mortgage (typically cheaper than a cash-out refi)

Cons

• Interest rates could rise if you delay financing too long after buying
• Financing could fall through if issues with the home arise after purchase
• Temptation to spend mortgage money on other things, rather than reimbursing self or replenishing assets

Important considerations when using delayed financing

If you want to buy a house with cash, then get a mortgage, there are a few key things you should know. Here’s what you should take into consideration:

• Your offer’s competitiveness. Delayed financing can help homebuyers in tight markets successfully compete for houses, because they’re using cash and sellers love cash buyers. “When sellers are looking at 15 offers on their house, you want to make the most attractive offer. This is why we’re seeing more people using delayed financing,” Seelenbinder says.
• Your financing timeline. Unlike a cash-out refinance, delayed financing has no six-month seasoning wait period, a requirement before lenders will write a mortgage on a newly purchased property. This means buyers are able to get their cash back quickly and lock in a rate.
• Your loan costs. There are no cash-out refinance fees, which can be between 3 percent and 6 percent of the loan principal and are often higher than those of a regular mortgage. That said, buyers who choose delayed financing should be ready for all of the closing costs that come with initiating a new mortgage loan.
• The potential for rate increases. If homebuyers wait too long to secure a mortgage after they buy the house through delayed financing, they may face higher interest rates. In today’s high-rate environment, this is a possibility. “When you’re talking about bigger loans, an eighth or a quarter of a percentage point rate hike can be significant,” says Ben Dunbar, CFP, managing partner at Gerber Kawasaki Wealth and Investment Management in Santa Monica, California.
• Home quality considerations. Cash buyers — including those planning to delay financing — sidestep certain lender requirements. For example, they can buy a home that doesn’t pass inspection, fix it up within 60 days and still qualify for their mortgage. This is common for people in certain areas of the country, especially along the coasts and in vacation spots, says Seelenbinder. However, buying a home that’s not eligible for financing because of its condition can become a financial disaster. “It’s a little worrisome that people will buy a house with major damage or structural problems with cash, hoping to get a mortgage later. Unless they hire experts to inspect the house, they really don’t know what they’re buying,” says Dunbar. In that situation, it’s essential to hire inspectors who are specialists (for example, in construction or electrical work) to do a thorough evaluation. The worst-case scenario is buying a property, finding the problems are worse than you realized and then pouring in more cash to remedy them. Worse still, if you can’t afford the repairs, you might not get the delayed financing and your cash will stay tied up in the home.
• Title insurance. If you choose delayed financing, be sure to get a title search and purchase title insurance. Although cash buyers are not required to buy this coverage, it’s a good idea, because it can help protect against any undiscovered liens. Another good reason: peace of mind knowing that in the rare situation where there’s a defect in the title, your investment in the home is protected.

How to apply for delayed financing

1. Talk to your financial advisor, CPA and real estate agent to assess the risks and benefits. A delayed financing cash offer can help you stand out in a crowded market, but there can be consequences if rates increase or the home ends up having significant problems. There could also be tax implications depending on how you come up with the cash.
2. Make sure you meet all the eligibility requirements for a mortgage, including: having no relation to or close friendship with the seller, documenting the sources of the cash used to buy the home, not borrowing more than the purchase price of the home and ensuring the home has a clear title.
3. Complete an application for a mortgage with a lender within six months after purchasing the home. Be prepared to include details about your finances and work history and undergo a credit check.

Bottom line on delayed financing

Delayed financing can offer many benefits. This type of arrangement isn’t for everybody, though. Even if you’re in a position to buy a house with cash and then get a mortgage, having that pocketful of ready money can have its temptations for some people.

“One of the risks — and this is just human nature — is that you want to make that home your own. You want to buy furniture and those types of things. So, there is a risk [when] they advance additional credit to make changes to the home,” says Seelenbinder. “We advise [clients] to understand their debt-to-income ratio and credit report.”