Risky Financing Tactics Every Property Investor Should Know

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Navigating the complexities of home financing can lead some buyers to employ creative – and sometimes risky – tactics to secure their desired properties. While these methods may seem like clever workarounds, they can fall into legal grey areas or be outright illegal. Here are some common strategies to be cautious of, arranged from the most serious to the less serious in terms of impact, with detailed descriptions and examples for better understanding:

1. Misrepresenting Loan Purpose or Source of Funds

Some buyers misrepresent the purpose of their loan or the source of their funds to lenders. This can include claiming the loan is for renovations when it’s actually for purchasing another property or falsely stating that the down payment funds come from personal savings when they are borrowed from others.

Example: John claims his loan is for renovations when it’s actually for buying another property. He might also falsely state that the down payment funds are from his savings, while they are borrowed from a friend.

Impact: Misrepresentation can lead to severe legal consequences, including loan denial, foreclosure, and potential fraud charges. Banks and financial institutions have stringent checks, and if discrepancies are found, it could result in significant financial and legal repercussions for the borrower.

2. Indirect Use of Cash-Out Refinancing for Property Purchase

Cash-out refinancing allows homeowners to borrow against their property’s value without selling it. However, using this loan directly for buying another property is prohibited. Some buyers circumvent this by investing the cash in other assets, then selling those assets to purchase a new property.

Example: Jane has a $2 million property and uses $600,000 from CPF. She cashes out $1.05 million and invests this money in stocks. Later, she sells these stocks to purchase another property, skirting the rule against using cash-out refinancing directly for property purchases.

Impact: This tactic can be considered fraudulent. The intermediary assets might lose value, leading to financial losses. Additionally, if the lender discovers this indirect use, they might take legal action, and the borrower could face foreclosure if repayments are missed.

3. Using Non-Bank Financial Institutions for Down Payments

Banks are prohibited from providing loans to cover down payments. Some buyers turn to non-bank financial institutions for these funds, which often come with higher interest rates. Others try to time their borrowing to avoid immediate detection on credit reports.

Example: Tom needs to make a 25% down payment on a $1 million property but only has $100,000 in cash. He borrows the remaining $150,000 from a non-bank financial institution at a high interest rate to cover the down payment.

Impact: High interest rates from non-bank lenders can lead to financial strain. Moreover, if the borrower is unable to repay the loan, it could lead to default, damaging their credit score and financial stability. The borrower might also face challenges with cash flow due to the high repayment amounts.

4. Temporary Income Boosts to Meet TDSR Requirements

To meet Total Debt Servicing Ratio (TDSR) requirements, some buyers temporarily inflate their income by showing significant bank deposits. This often involves borrowing money temporarily to meet the bank’s criteria, then withdrawing it once the loan is secured.

Example: Sarah needs to meet TDSR requirements for a home loan. She temporarily deposits $100,000 into her bank account to appear as if her monthly income is higher. After the loan is approved, she withdraws the money and returns it to her friend.

Impact: While this might help in securing a loan, it’s risky and potentially illegal. If discovered, it can result in loan termination and legal consequences. The borrower might also face financial strain if the true income is insufficient to cover the loan repayments.

5. Inflating Property Valuation for Higher Loans

Some buyers seek higher valuations from multiple banks through mortgage brokers to increase their loan amount and reduce their initial cash outlay. This involves getting a bank to accept a higher property valuation.

Example: Mike is buying a property listed at $1.8 million but valued at $1.7 million. He works with multiple mortgage brokers to find a bank willing to accept the higher valuation to increase his loan amount and reduce his initial cash outlay.

Impact: Higher valuations might lead to higher interest rates and long-term costs. Overvaluation can also affect future refinancing and resale value, leading to potential financial losses. Borrowers might end up paying significantly more over the loan term due to higher interest rates.

6. Manipulating Variable Income Sources

Variable income, such as rental income or sales commissions, is often subject to a 30% haircut in TDSR calculations. Some buyers inflate their income by declaring higher earnings on tax forms or temporarily adjusting their portfolios.

Example: Lisa has a fluctuating income from rental properties. To meet TDSR requirements, she declares higher rental income for the previous year, paying more taxes. She might also temporarily adjust her portfolio to show higher fixed-income products.

Impact: Manipulating income sources can be complex and may not always be accepted by banks. It can also lead to higher tax liabilities. If the bank does not recognize certain income adjustments, the borrower might still face challenges in meeting TDSR requirements.

7. Using Multiple Co-Applicants to Maximize Loan Amount

Some buyers include multiple co-applicants to increase the total assessable income and qualify for a larger loan. This often involves pooling incomes with family members or friends.

Example: David includes his parents as co-applicants to increase the total assessable income and qualify for a larger loan. While this helps him secure a higher loan, it complicates ownership and repayment responsibilities.

Impact: Multiple co-applicants can lead to complex ownership structures and potential conflicts. If any co-applicant faces financial issues, it affects the loan repayment capacity. It also complicates future property decisions and legal ownership matters.

Conclusion

While these tactics may offer short-term solutions, they come with significant risks and potential legal implications. It’s crucial to understand the long-term consequences and consider more sustainable financial strategies when purchasing a home. Always consult with financial and legal professionals to ensure compliance and avoid pitfalls.

By staying informed and cautious, property investors can make better decisions and avoid the potential pitfalls associated with these risky financing tactics.