Posted by JohnBoy on July 28, 2003 at 21:40:13:
Simple. When you exercise your option, the option price you pay to close the sale will be used to pay off the second and the remainder goes to the seller.
You have an option to buy for $80k. House is worth $100k. You record your performance mortgage in the amount of $80k. Seller later gets a second for $20k. You exercise your option, the proceeds from your $80k will be used to pay off the seller’s second of $20k, and then seller gets $60k at closing.
Of course, if the home was worth $100k at the time you lease optioned it for an option price of $80k, then you should record your performance mortgage in the amount of $100k. Then the seller couldn’t take out a second because they would have no equity to borrow against. In order to borrow against anything the lender will require you to subordinate your interest to allow them to become the first. But as long as the amount the seller is borrowing is less than what your balance owed to the seller is when you will go to exercise your option, it won’t really matter since the amount you will need to pay the seller to exercise your option will be enough to pay off the seller’s loan when you close on the sale. The only time you would really have a problem is if the seller borrowed more than what you would need to pay to exercise your option.
It is no different than if you lease option a home a seller does not own free and clear. If you L/O a home a seller currently has a mortgage on, you will be using the proceeds you pay to exercise your option to the seller’s mortgage to pay that off first and any proceeds left over would go to the seller.