Seller Financing: The Good, The Bad And The Ugly
Scott Steinberg5-minute read
January 29, 2021
The practice of seller financing goes by many names, including purchase-money mortgages and owner financing. But in its simplest terms, it describes a form of real estate lending transaction in which a property owner also serves as a mortgage lender, eliminating the need for a financial institution to handle financing agreements.
Seller financing is championed by some property owners and real estate pros as a way to help homebuyers qualify for additional mortgage opportunities, reduce the amount of red tape associated with home sales, and improve profit margins on lending. But while seller financing effectively sees a seller provide a buyer with direct financing, it also comes with pros and cons attached, as with any form of home financing. Noting this, it’s important to do your research and consult with a qualified professional before entering into a seller financing agreement.
What Is Seller Financing?
Under the terms of seller financing, a property owner who is selling their home effectively serves as a mortgage lender as well and provides partial or total financing directly to the buyer. It’s a form of real estate agreement that’s intended to cut out the middleman and allow the buyer to pay the seller in installments rather than applying to obtain a traditional mortgage from a bank, credit union, or other financial institution. In effect, a seller financing agreement functions along similar lines as a mortgage loan, except that the debt is owned and overseen by the home seller instead of a financial lender.
If you choose to opt for a purchase-money mortgage (a mortgage that is issued to a homebuyer directly by a property seller) then the seller will provide financing and handle the mortgage process, during which you will enter into a mortgage with the seller instead of a corporate lender. Also sometimes referred to as owner financing or purchase-money mortgages, seller financing’s advantages include no minimum down payment, homeownership access for those with poor credit, and fewer regulations. But these same upsides can also quickly become disadvantages as well
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Types Of Purchase-Money Mortgages
Seller financing and purchase-money mortgages are synonyms – one and the same. Certain homebuyers may find these options (which may provide more opportunities to finance a home purchase and may even come without a credit check attached) attractive, especially low income or first-time buyers. Be advised, though: Some seller financing offers may function more like rental agreements than traditional mortgages and offer unfavorable terms that offset any initial benefits to be had. As with any form of mortgage agreement and legally binding real estate contract, it’s important to do your homework and research and consult with a qualified professional up-front.
Land contracts: A land contract is an agreement to purchase a piece of real estate that involves buyers borrowing money from the real estate owner until the purchase price is paid in full, rather than from a bank, credit union, or financial institution.
Assumable mortgage: An assumable mortgage is a type of home financing in which buyers are given the opportunity to purchase a home by assuming responsibility for and taking over the seller’s current mortgage (especially if it’s charged at a lower interest rate).
Lease purchase: Also known as a rent-to-own contract, a lease purchase agreement speaks to a form of agreement under which renters pay sellers an option fee at an agreed-upon purchase price that gives the renter the exclusive option to purchase the property at a later date.
Land loans: A land loan is used to facilitate and finance the purchase of a plot of land for later use for residential or business purposes.
Holding mortgage: Under a holding mortgage agreement, a homeowner agrees to serve as a lender for the homebuyer, and provides a loan for the purchase, which the buyer repays by making monthly payments to the seller. The seller continues to hold the property’s title until full loan repayment has been made by the buyer.
Benefits To The Seller
Seller financing may prove a good option for those wishing to lend money. Select upsides associated with providing it include:
- Ability to save on closing costs
- Can produce significant capital gains tax savings over time
- Faster time to sale, and ability to sell your property as-is without the need for repairs
- Released from property tax, homeowners insurance, and various maintenance expenses
- Option to sell the promissory note to an investor
Benefits To The Buyer
Buyers may also enjoy several benefits should they elect to participate in seller financing programs as well, such as:
Disadvantages Of Seller Financing
As alluded to above, seller financing is not without its potential drawbacks as well. Items you may wish to keep in mind as you consider whether or not to pursue this form of real estate financing option are as follows:
- Fewer regulations that protect homebuyers
- Buyers still vulnerable to foreclosure if seller doesn’t make payments to senior financing
- No home inspection/PMI may result in buyer paying too much for the property
- High interest rates and bigger down payment required
- Seller faces risks if buyer defaults on payment
As previously noted, there are pros and cons to weigh when debating whether or not to enter into a seller financing agreement. Following, you’ll find answers to several frequently asked questions (FAQs) associated with this form of real estate transaction.
What Is The Difference Between A Purchase Money Mortgage And Seller Financing?
These terms are one and the same – a purchase money loan is a loan that’s made to a homebuyer by the property seller. This process may also be referred to as owner financing.
Is Seller Financing A Good Idea?
Answers are entirely dependent on your personal situation and needs. As a homebuyer, seller financing may make more lending opportunities available to you, just as it may present added opportunity for financial benefit to home sellers. However, there are advantages and disadvantages to the practice as well, as outlined above.
Who Holds The Title In Seller Financing?
Under the terms of seller financing, the property owner (i.e. home seller) retains the title to the home as a form of leverage until the mortgage has been paid off in full.
The Bottom Line
Seller financing, also known as owner financing, presents upsides and downsides to homebuyers and sellers alike. Via these agreements, purchasers with lower credit scores or incomes may be able to obtain loans that they could not have been approved for otherwise. At the same time, the interest rate that a seller may charge can often exceed that charged by a traditional mortgage lender. So, while seller financing can open up more possibilities to aspiring homebuyers when it comes to real estate transactions (and potentially provide home sellers with added investment opportunities and tax savings), it won’t make sense to utilize in every case.
To learn more about seller financing, and whether it’s ideal for you, be sure to do your research and homework up-front, and consult with a qualified professional such as a real estate attorney before entering into an owner financing agreement. Be sure to review the terms and conditions of any owner financing contract too, which may vary greatly between agreements as well. In addition, you’ll want to make a point to sit down and crunch the numbers to see if up-front savings on a property purchase made in this fashion may, in fact, ultimately stand to cost you more in the end.
As an alternative to seller financing, we recommend working with Rocket Mortgage® to see if you qualify for a more secure mortgage option.
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