Seller/Owner Financing Question

I started reading about seller/owner financing, and I'm confused about something. Buyers usually go through this option when they cannot get a loan through conventional means, such as from a bank. I understand that in seller financing, the seller takes the role of the bank, the agreement is usually around 5-6 years, and at the end of those 5-6 years, the buyers has to provide a balloon payment, which the buyer usually pays or refinances with a traditional third party lender who pays it. This is where I seem to not understand something:

How is the buyer able to refinance for the balloon payment with a third party (I'm assuming it's the bank) if the reason he is under seller financing is because he was not able to get a loan through the bank in the first place? Why would the bank agree to refinance now? Is there a possibility that the buyer cannot refinance?

I am a college student and I'm using this summer vacation to try to understand how all this works :D. If you have any other advice for me, I would truly be thankful for it.

Thank you all,

Manuel

Charles Perkins

Landlord · Seattle, Washington

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May 18 '11, 06:15 AM

There are reasons for buyers and sellers to want to seller financing.

For buyers poor credit is not the only reason. An investor may have a number of properties already and not have sufficent cash available, but have found a good deal. A buyer might have the cash, but would like to stay liquid. For buyers seller financing can be a nice way to get into a property.

Sellers sometimes have trouble selling their properties and look for alternatives such as seller financing. Not typically the sellers first choice though some sellers are looking for ways to defer capital gains. Some properties are difficult to find conventional loans on especially these days in this case seller financing is a way to get the property sold.

Andrew Leal

Real Estate Investor · San Antonio, Texas

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May 18 '11, 06:33 AM

5-6 years should be time enough to get your properties cash flowing, make your DTI look better, re-build credit score or establish a relationship with a bank. Before I consider seller financing I would start by talking to a banker. Is the bank telling you because you are a student you dont have sufficient credit?

Tom S.

Real Estate Investor · Burlington, Vermont

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May 18 '11, 06:57 AM

Just to chime in, as I've done a number of owner finance deals, both buying and selling:

Reasons I have owner financed to buy:

- Quicker qualification and close.
- House needs rehab and doesn't qualify for conventional financing
- Typically doesn't show on my credit

Reasons I have offered owner financing to sell:

- Obtain a higher sales price
- Defer taxes
- Broaden my appeal to investors and be more flexible to get the deal done.

Hope that helps,

- Tom

Angie Menegay

Real Estate Broker · Irving, Texas

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May 18 '11, 07:13 AM

Originally posted by Manuel Sandoval

How is the buyer able to refinance for the balloon payment with a third party (I'm assuming it's the bank) if the reason he is under seller financing is because he was not able to get a loan through the bank in the first place? Why would the bank agree to refinance now? Is there a possibility that the buyer cannot refinance?
Manuel

5-6 years is a long time for the buyer to rebuild their credit if that's the reason he wasn't qualified the first time (which is usually the case)...

Bill Gulley

Real Estate Investor · Springfield, Missouri

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May 18 '11, 07:44 AM

Just lurking.

Seller financing does not make a property worth more. There are scammers that do thissince seller financed deals don't require an appraisal. Just keep in mind that the financing on any property has nothing to do with the valuation of the property, if anything, it should be less depending on the tax benefits to the seller. You can always justify getting a better deal, but you cannot justify raising a price for the seller to save on taxes, make his property more marketable and earning a rate of interest which is probably higher than he could get on similar investments with the after tax sale proceeds.

Tom S.

Real Estate Investor · Burlington, Vermont

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May 18 '11, 08:39 AM

I agree that seller financing does not increase the value a property. But it can make it more attractive to an investor.

If someone comes in with a cash offer, I'll certainly sell for less than appraised value.
But sometimes investors will ask me to carry a 2nd in return for paying full price (appraised value). In that case, I get a higher value when selling, and the investor gets cash now for the 2nd.

- Tom

Manuel Sandoval

Real Estate Investor · Pacoima, California

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May 18 '11, 03:45 PM

Originally posted by Andrew Leal

5-6 years should be time enough to get your properties cash flowing, make your DTI look better, re-build credit score or establish a relationship with a bank. Before I consider seller financing I would start by talking to a banker. Is the bank telling you because you are a student you dont have sufficient credit?

Thanks for your response. Yes, the bank is telling me that I do not have sufficient credit. I am trying to build my credit using secure credit cards, but besides that there is not much I can do while being in school. If I were to somehow obtain enough money for a reasonable down payment, do you think I have good chances of making a deal with a seller for seller financing?

Manuel Sandoval

Real Estate Investor · Pacoima, California

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May 18 '11, 04:02 PM

Thank you everyone for all your responses and for clearing this up for me.

For those of you who have some experience with buying already occupied apartment complexes through seller financing, is the monthly income coming in from rent sufficient to pay the seller his required monthly payments?

Manuel Sandoval

Real Estate Investor · Pacoima, California

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May 18 '11, 04:02 PM

Thank you everyone for all your responses and for clearing this up for me.

Bill Gulley

Real Estate Investor · Springfield, Missouri

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May 18 '11, 09:21 PM

Yes, you will most often need a down payment and closing costs if it is with a note and deed of trust. Installment contracts will allow you to put off some or most of the closing fees.

Yes, the property should always cover your expenses. I would suggest you not begin with multi-housing as your down will be much higher and you need some experience or you may crash and burn. Start with a house, IMO.

JAMES Coleman

· Sterling, Colorado

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Jun 02 '11, 04:32 PM

Like Manuel, I'm also considering seller financed deals. To clarify what was stated above, after you have had the property for several years, let's say you go to the bank and present your rental history. Assuming the history is good, according to my local banker, she will count 75% of the rental income to offset my debt-to-income ratio. So.. For this to work you would need your rent collections to be 25% higher than your mortgage payment correct?

My concern is not having the DTI ratio to allow for traditional financing. So if you had multiple owner financed properties that you're trying to conventionally finance, that could be a problem. Likewise, is the bank also going to want the standard 20-25% down on each one?

Matt T.

SFR Investor · CB, Iowa

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Jun 02 '11, 05:07 PM

James, you are correct in the statement that most banks will only count 75% of the rent as income. Be careful though setting that as your bar to make it a good deal. You've probably seen threads on BP detailing other expenses (i.e. insurance, taxes, vacancy, maintenance, etc). These, over time, will likely eat up about 50% of your rental income.

Banks I have worked with do not need the 20-25% down you referenced. Since it would be a refinance, they would loan 75% of the value as established by a new appraisal.