Mexico Real Estate: Evaluate In-house Development Financing

The Mex­i­can coast­line from Baja Cal­i­for­nia to Can­cun is dot­ted with beau­ti­ful devel­op­ments and spec­tac­u­lar devel­op­ment pro­pos­als that offer in-house financ­ing to real estate buy­ers. This type of financ­ing can be attrac­tive for buy­ers when they are deal­ing with rep­utable devel­op­ers who are finan­cially sound. Yet in the some­times shaky world of Mex­ico real estate there are risks involved to some in-house financ­ing, but those risks can be managed.

Finan­cially strong sell­ers usu­ally offer in-house financ­ing for three basic rea­sons. First, it can be an effec­tive mar­ket­ing tool to reach poten­tial buy­ers that might not oth­er­wise qual­ify for a loan through US sources, or who don’t want to affect their credit the USA. Also, it allows the seller to offer flex­i­ble, cus­tomized loan terms that com­mer­cial lenders can’t match. Finally, it can dif­fer­en­ti­ate a finan­cially sound seller from a smaller com­peti­tor who does not have ade­quate cash to do their own financing.

Amer­i­can buy­ers using their cul­tural assump­tions may believe that opt­ing for in-house financ­ing is just a sim­ple cost/convenience deci­sion. The in-house loans are eas­ier to set up than any of the com­mer­cial loans. Some in-house rates are now only slightly above the com­mer­cial loan rates and up-front clos­ing costs tend to be lower. Yet there is a down­side to some in-house financ­ing offered in Mex­ico that should cause buy­ers to stop and think carefully.

There is no prob­lem with in-house financ­ing pro­vided that the seller is finan­cially sound, with money to cover expenses and cash flow. The chal­lenge is that the buyer doesn’t really know the seller’s finan­cial con­di­tion. In fact, most buy­ers are not aware of the true con­di­tion of the property’s title. There are cases where devel­op­ments offer in-house financ­ing because they know that the prop­erty can­not actu­ally qual­ify for a loan from a com­mer­cial lender. There­fore, buy­ers must ensure that the financ­ing doc­u­ments pro­tect their interests.

I rec­om­mend that buy­ers do the following:

1. Deter­mine whether the prop­erty still qual­i­fies for a reg­u­lar com­mer­cial loan, even if the buyer actu­ally intends to use in-house financ­ing. The deal should be made con­tin­gent on the prop­erty qual­i­fy­ing for a com­mer­cial loan at clos­ing. Include a con­tract clause that allows the buyer to receive a com­plete refund, and be freed from fur­ther oblig­a­tions, if the prop­erty doesn’t qual­ify. If the prop­erty can’t qual­ity for a com­mer­cial loan because of title prob­lems or per­mit­ting issues, this is a major red flag.

2. Con­trac­tu­ally treat the in-house financ­ing just like a nor­mal Mex­ico mort­gage (hipoteca) at clos­ing, instead of a sim­ple promis­sory note. This will require a full clos­ing before a Mex­i­can notary in order to ensure that the buyer’s loan pay­ments reduce the loan prin­ci­pal and increase the buyer’s equity in the prop­erty. This is crit­i­cally impor­tant. All com­mer­cial loans are han­dled as mort­gages against the prop­erty, whereas some in-house pro­grams don’t deliver title (i.e. rights to the prop­erty) until the buyer fully pays the note. This is a major difference.

3. Look for pre-qualified devel­op­ments that have already part­nered with com­mer­cial lenders. The fact that the seller is “pre-qualified” is not a guar­an­tee of future loans by the com­mer­cial lender, but is indica­tive of some pre­vi­ous research by the lender. Even if there is already a lender rela­tion­ship, it is still impor­tant that the con­tract terms require the seller to main­tain the property’s eli­gi­bil­ity for com­mer­cial lending.

4. Seek other signs of seller finan­cial strength, such as will­ing­ness to accom­mo­date full escrow of deposits until deliv­ery, per­for­mance bonds, or voucher control.

5. Be par­tic­u­larly care­ful of a doc­u­ment called a pagaré, which is a promis­sory note. If the buyer does not have pos­ses­sion of the unit, such as in the case of a pre­con­struc­tion con­tract, they have not received any­thing in exchange for the promise to pay. The buyer has no con­trol over when the prop­erty will be deliv­ered. But, they have just signed a sep­a­rate con­tract to make pay­ments, often on a pre­de­fined date. If the buyer reads the doc­u­ments care­fully they may even dis­cover that the promis­sory note con­tains no ref­er­ences to the sales con­tract or deliv­ery of the unit. In other words, if the seller never deliv­ers the unit or the title, the buyer could still be oblig­ated to pay.

Using these tips to ana­lyze in-house financ­ing options will help buy­ers in Mex­ico find the path to a reward­ing coastal investment.