Sharp small-scale investors in Washington area rental property are beginning to turn to a form of financing that sounds arcane and used to be the sole preserve of the big commercial investors: the wraparound mortgage.

Pushed by steep interest rates and decreasing credit availability from conventional lending sources, buyers and sellers of everything from suburban Maryland and Virginia rental homes to inner-city Baltimore rowhouses are saving cash and cutting taxes by wrapping new loans around older ones.

The concept works like this. When savings and loan associations and banks want 25 to 30 percent down, two or three cash discount points and 12 percent interest on loans to investors, those buyers look to secondary sources that require far less cash.

They also become far more willing to pay premium prices for properties that can be purchased with down payments of 10 or 15 percent.

Sellers of properties with attractive existing financing -- particularly interest rates on their first deeds of trust that are well below today's -- find themselves in an excellent position to provide exactly what investor-buyers need -- and to profit handsomely.

Take the case of the owner of a suburban Maryland house who wants to sell it for no less than $100,000, but hasn't gotten an offer above $94,000 for months. The house is well-located, easily rentable, and has a $40,000 assumable first deed of trust at 8 percent on it.

A young, professional couple is interested in buying the property for investment, but can't or doesn't want to come up with the $60,000 that would be necessary to assume the mortgage.

The seller, however, can propose a creative solution: a full-price $100,000 contract on the house, a $10,000 cash down payment, and a 20-year wraparound loan from himself to the buyer for $90,000 at 11 percent.

The existing $40,000 loan would remain on the books, secured by the house, and the seller would agree in writing in the contract of sale to continue making the regular monthly payments to the first-trust lender.

The $90,000 customized loan from the seller to the buyer would encompass the full debt on the first loan, plus add in another $50,000 in new debt. It would be secured by the house, but in a "subordinate" or junior status. (That is, in the case of foreclosure, the note would be paid off after the $40,000 was satisfied from the proceeds of the sale of the house.)

The new loan -- which wraps around the old loan without distrubing or changing it in any way -- has multiple benefits to both buyer and seller.

From the point of view of the husband and wife buying the house, they are getting financing that is simply unobtainable in the present market: a low down payment, no cash discount points or placement fees to an S&L or bank, and an interest rate lower than the prime short-term rates offered by lenders to their best corporate customers. Without such terms they might not have been able to justify investing at all.

From the point of view of the seller, the transaction is even better. First, he's getting his full price, $100,000, $10,000 of it in cash. Second, he has actually arranged a method of making money on his existing 8 percent loan.

Part of the monthly 11 percent payment he'll be getting from the couple will be intended to pay for interest and principal on his $40,000, first trust. He'll be getting paid at 11 percent on the $40,000, but paying out only 8 percent to his original lender, pocketing the 3 percent "spread" as pure profit every month for years to come.

Third, the seller will be cutting his otherwise inevitable, large capital gains taxes on his profits from the $100,000 sale. By phasing the payments over a period of years, the seller will only have to pay federal taxes on the portion of his capital gain he receives each year. This will cut his total tax burden substantially.

Fourth, the paper profits he is deferring -- by loaning them to the couple -- will be earning him 11 percent a year, a return far beyond what he could get from most other alternative investments.

Wraparound financing like this is gaining popularity here and in other metropolitan areas because of its superb tax-saving and profit features -- and its relative safety. Some local brokers and attorneys are now specializing in it, and even structuring such loans for non-investor, primary home buyers.

Robert E. Reiver of Rockville, a real estate attorney active in this field, says that some investors are now scouring their communities for houses for sale with assumable FHA or VA loans carrying rates of 9 1/4 percent or less, putting full-price contracts of sale on them, and then reselling the contracts with wraparound financing of up to 12 percent to other investors.

The first-contract holder merely wants the 2 or 3 percent lender's spread on the wraparound loan and perhaps a small fee for the contract -- but doesn't really want the house.