Advice on buying a seller financed property

John Humphries · 2017-12-05T09:28:48-08:00

Hi BP community. I'm looking for some advice on an offer for a buy and hold rental property that I am looking at. It is a single family house in a coastal community in NC. The backstory: I'm from NC but live on Vancouver Island now. My market here is not conducive to buy and hold and rentals, although I did manage to scoop up a decent deal a few years ago. I'm looking for monthly cashflow to replace my income so I've expanded my search radius in order to keep my investment goals alive. My mother still lives in NC so I decided to look at some real estate there on a recent visit. The house in question is actually the house across the street from her so obviously, it takes a bit of the worry out of buying out of country for me. The house is listed for $163,000, but it is a DR Horton cookie cutter style neighborhood with 5 other similarly priced houses for sale in the immediate neighborhood. The subdivision is still being expanded with new houses being built from around $190,000. The house in question needs no work, other than having a HVAC which will need to be replaced within a few years. It would likely sell in the $145,000 - 150 range easily, but has been sitting on the market for over 2 months at its current price.Buying this house at list price or even below list with 20% down and a conventional mortgage (for an investment property) does not make sense based on the numbers that I am looking for (~10% cash on cash with ~$150 in cashflow left over after ALL expenses, ie. mortgage, insurance, taxes, vacancy, management, HOA, etc.). However, I found out that the owner owned it outright and asked about seller financing. They said to make an offer...Here's where I could use some advice - In order to make my numbers work, I could offer $20,000 down with a 4% loan on $85,000 for a 30 year term. The offer is only for $105,000, but the seller would receive $405 per month for 30 years for a total of $145,500. For me, I would hit my cash on cash target (10.04%) and would clear $167 per month after all expenses. This is a very unlikely offer to be accepted by a seller in my opinion, but obviously it works for me. I don't hold out too much hope that we will be able to come to an agreement that works for both of us, but would really like to make an offer, if for no other reason than learning this process. Can anyone offer any advice on another way to structure this offer or something that I might be missing somewhere? Any advice or comments welcome...House list price - $163,000Insurance - $171 per monthTaxes - 74.25 per monthStrata - 160 per monthRental rate - 1000 - 1200 per month

Marc Izquierdo

Investor · Bristol Borough, PA · Member since 2016 · 135 posts · 53 votes

8y

Hmm, that's tough. I'm not sure how old the seller is but even after 30 years (assuming you don't refinance out and they live that long) they are still taking a 20k cut on the house from the list price. With inflation, it's even worse. I see it as they'd have to be motivated to sell (frustrated landlord still looking for cashflow, old and still looking for cash flow, etc) to accept an offer that low.

I've never seller financed a property before but from what I've read, most of the time it seems that you'd offer a higher than list price because the seller is holding the note for you. You'd also expect an interest rate higher than what you could get at a bank. 4% is a bank rate. It makes sense that in a deal (where both sides benefit), you would pay higher than list and a higher interest rate for the benefit of not going through a bank. That's just my view on seller financing. I'm sure others would argue differently.

Yea it's been on the market for 2 months, but this month I've seen 3 different instances (including my own deal) where a seller, whose house has been on the market for 2-3 years, won't budge on $500. I think this deal depends on the people and what their motivation is. You may be more subject to their terms due to the seller financing.

1 Reply

John Humphries

OP

Investor · Courtenay, British Columbia · Member since 2016 · 103 posts · 21 votes

8y

Hey @Marc Izquierdo, thanks for the response. I definitely agree that the 30 year term is very unlikely. I think shorter terms with balloon payments would likely be more successful although I'm doubtful that there is a way to make those numbers work. I was hoping that someone might see something that I don't.

Perhaps I'm wrong here, but in my opinion, I would think that the seller would take a lower offer than list price because they are holding the note. Because they are holding the note, they are getting the extra interest payments and thus potentially making more on the back end (although not in my scenario above).

Unfortunately, I think what it comes down to is that this house is not a great investment property based on its price, expenses, and what it can be rented for. I was just trying to put my creative hat on to try to make something happen.

The owner is an out of state landlord that seems to have given up on the property. It's been sitting vacant for two months now and I don't imagine they are going to get any offers at their asking price based on the other inventory on the same street. However, you are correct, it just depends on their motivation.

Thanks again for throwing your opinion out there!

1 Reply

Malia B.

Investor · Bergen County, NJ · Member since 2017 · 16 posts · 7 votes

8y

From what I've learned seller finance is best when you cannot get a normal mortgage. So if the house if fine, and a conventional loan would work, then all you need from them is the right purchase price.

I think seller finance is for those who cant get a conventional loan (self employed maybe) or on properties what wouldn't qualify (bad roof maybe). The benefit is to both the seller and owner in that the owner cant sell to just anyone without putting money into the property -or- the buyer cant buy on conventional funding methods. I've heard of the seller finance loans being higher price point than the equity, higher interest rate and shorter terms.

Maybe consider a subject to option. But in the end if the number don't work then walk away!

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Brian Schmelzlen

Accountant · La Mesa, CA · Member since 2017 · 477 posts · 476 votes

8y

Hi John,

It does seem unlikely that the seller would be willing to accept that much of a haircut, especially since the seller won't be getting the money right away.

I would give up on the 30 year term; I would offer a 5 year term with a 30 year amortization (plan on refinancing around 4.5 years in). You could also consider changing the terms a bit: offer a higher purchase price (but same total dollars down at purchase) in exchange for a lower interest rate. The benefit to the seller is that any gain on the sale is taxed at capital gains rate while interest is taxed at ordinary income rates which would be higher. Therefore, the seller pays less on taxes, but you would be paying the same amount each month.

Even though it is a low-ball offer, the worst that can happen is that the seller says no.

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Steve Vaughan

Rental Property Investor · East Wenatchee, WA · Member since 2014 · 10k+ posts · 16k+ votes

8y

My seller financed offers are very broad stroke and generic with a Letter of Intent (LOI).

I offer 3 scenarios - 1) cash out (lowest price), closing in 45-60 days.

Or 2) seller financing (10-20% down, market rates, $x/mo pmt) at cash out price + about 10%, closing in 14 days or when they choose.

Or 3) Lease with option to buy for 30 months at $x/mo at 10% higher still, closing in as little as 7 days or when they choose.

A lot of times the seller forgets option 4 - "No thanks"- is even an option at all and will select one of the 3.

If the seller gets back to you about option 2, you can go deeper in the weeds about terms at that time @John Humphries

@Malia B.- some of us like seller financing just because we don't like banks, appraisals, or the costs & bs and delays that go with it. And/or we don't want yet another loan on our credit report. I'd have 15 by now! It's not always because it's our only option or because of home condition, but you're right, it CAN be.

I like your creativity suggesting sub2, but this one doesn't have a mortgage, so nothing to purchase 'subject to' it;) Cheers!

2 Reply

John Humphries

OP

Investor · Courtenay, British Columbia · Member since 2016 · 103 posts · 21 votes

8y

@Brian Schmelzlen and @Steve Vaughan, thanks for the insights. I've mapped out some other scenarios using the idea of a 5 or 10 year term with a 30 year amort. These would definitely seem more reasonable for the seller than a 30 yr term that I originally put together. The offer prices are still crazy low ball, but factoring in the interest payments, the actual price that the seller will get at the end of either a 5 or 10 year term look a bit better.

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John Humphries

OP

Investor · Courtenay, British Columbia · Member since 2016 · 103 posts · 21 votes

8y

I see my attempt to attach my spreadsheet link seems to have failed so text it is...

Scenario 1 -

Offer Price $125,000 with $20,000 down; 5 year term @ 3% with 30 year amort = $441.43 per month to the seller. At the end of the 5 year term, the seller has $20,000 down +$93,320.01 balloon at the end of 5 years + $26,497.97 in interest payments over 5 years = $139,817.98

After all expenses I will make $130 per month with 7.85% cash on cash return. It's a bit low, but I can live with these numbers, especially since I can likely bump my monthly up to around $200 - $250 depending on how I decide to manage.

Scenario 2 -

Offer price $125,000 with $20,000 down; 10 year term @ 3% with 30 yr amort = $441.43 per month to seller. At the end of 10 year term the seller has $20,000 down + $52,995.93 in monthly payments + $79,764.91 balloon payment = $152,760.84

My question now is in the somewhat unlikely event that this offer is accepted, how will the "refi" after the 5 year or 10 year term look? Using the 5 year scenario above, I would need to make a $93,320.01 balloon payment. If I wanted to go for a conventional loan at that point, could I expect a lender to lend up to 70% of value? I expect that worst case scenario the appraisal would come in at $140,000 (70% of 140,000 = $98,000).

Alternatively, it's hard to say what the market will look like in 5 years, but if things remain similar in this area, I could easily sell for $140,000 and make a small capital gain after pocketing 5 years of rent payments.

What else have I missed here? Any other advice or tips? Or anyone else care to share how they have structured seller financed deals?

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Jeshua Patrick

Rental Property Investor · Charlotte, NC · Member since 2017 · 298 posts · 232 votes

8y

John Humphries another way to structure is by offering a lowball price with a higher interest rate that allows him to make the difference between offer price and his must have price in the first 5 years but with say a 10 yr balloon. For example, let’s say his minimum is $150k. You could offer him $115k with 20% down, 30 yr amortization, 8% for the first 5 years then 5% thereafter, with a 10 year balloon. In this scenario he would receive $23k up front and another $36k over the next 5 yrs for a total purchase price of $151k and $59k in his pocket in the first 5 years with him potentially receiving as much as $180k if you keep the loan for the full ten years. Your starting payment would be $675 plus taxes/insurance years 1-5 dropping to $511 plus taxes/insurance in years 6-11. Not sure if those numbers would be workable for you but that’s another way of structuring the deal.

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John Humphries

OP

Investor · Courtenay, British Columbia · Member since 2016 · 103 posts · 21 votes

8y

Hi @Jeshua Patrick, and thanks for weighing in. I wish I could get my spreadsheet to show up here in the thread so that everyone could see all of the numbers. I like your idea and will definitely keep it in mind for future offers, but for this one specifically, $450 per month for the P&I is where I top out in order to make my numbers. Unfortunately, for this part of NC, the insurance premiums are high ($171) and there is also a $160 HOA. With those expenses eating into profits, it's difficult to make good investment numbers in this particular neighborhood.

I'm not married to this deal enough to fudge my numbers. Basically, the only reason I am looking at it is because it is directly across the street from Mom's house. As an out of country landlord, that takes out most of the worry about not being able to keep an eye on things!

I'm looking at this as a good opportunity to learn about seller financing through structuring an actual offer. It is definitely a bit low for the neighborhood, but you never know what people will take until you start the conversation.

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Ron Flatt

Investor · Hillsboro, TX · Member since 2017 · 358 posts · 245 votes

8y

I have purchased with owner financing and have sold using owner financing. The ones I bought owner finance were usually so-so deals, sometimes the biggest problem is educating them on how it works, usually in an amortization schedule. They really get confused if I pay extra on the note, because it does not fit the table anymore. (Currently trying to refinance out of one that the seller argues every year, because the principle came down too much and she is claiming too much interest). I think she would prefer that the balance did not come down and she did not have to claim the interest.

I sell lots, raw land and some real rough houses on owner finance. I get a premium interest rate and top dollar on the property, because either they cannot go get other financing or not worth getting other financing because it is easier. (This is very lucrative for those who do not mind a little paperwork).

What you have described, sounds like a deal to walk on, unless they are willing to negotiate to your numbers. You never know what they may take. I had a gentleman sell me a rough place for 5% down and no interest for 5 years. Do not be afraid to offer his full price or close to it and no interest for 5 years, with your 20& down payment. He is getting $30K up front, getting a payment from you each month and a final balloon at end of 5 or 10 years. He wins, you win

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John Humphries

OP

Investor · Courtenay, British Columbia · Member since 2016 · 103 posts · 21 votes

8y

@Ron Flatt, I'm curious about your recommendation, but am not sure I understand fully. Can you expand on that a bit? With 0 interest for 5 years, what monthly payment is the seller getting?

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Ron Flatt

Investor · Hillsboro, TX · Member since 2017 · 358 posts · 245 votes

8y

You give them your down payment. Agree on a monthly payment, where all of it goes toward principle. If you do not mention the interest rate, they may not bring it up.

Example: Offer- I can give you $160K, but I need some time to get the other financing. I will give you $25K down and payments of $450 per month for 60 months. At the end of 60 months I will give you the balance of $108K. You will get copies of paid insurance and taxes each year. As a seller you will not have to claim all of the income at one time and you will receive close to your asking price.

Does that help?

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John Humphries

OP

Investor · Courtenay, British Columbia · Member since 2016 · 103 posts · 21 votes

8y

@Ron Flatt, I like it. That could definitely work. Thanks for the clarification.

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Ron Flatt

Investor · Hillsboro, TX · Member since 2017 · 358 posts · 245 votes

8y

Your welcome @John Humphries. Many sellers want out, they are getting their price, you are getting a deal that works for you. WIN/WIN .... you gotta love Zig Ziglar

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John Humphries

OP

Investor · Courtenay, British Columbia · Member since 2016 · 103 posts · 21 votes

8y

Hi everyone

I wanted to update this post and hopefully keep it going for myself and any others who might find themselves with a possible seller financed deal.

So I took @Ron Flatt's advice, and actually came up with an offer that I could present. The seller and I both have real estate agents, so I contacted my agent and said that I could offer $140,000 with $20,000 down and then payments of $420 per month for 60 months (5 years). At the end of 60 months, we would pay off the balance of the $140,000 or if we both agreed, we could continue for 5 more years at $420 per month and then have a balloon payment.

I just sent this to my agent, basically with a note that if they were willing to look at the offer and wanted to negotiate, then we would get a lawyer to actually draw up the contract. Since is this is not a very good deal for the seller, I did not want to waste time and money until I knew that they were serious or willing to negotiate.

For anyone who has done this before, would you have done this differently?

There has been a quite a bit of confusion and back and forth since the offer as this is everyone's first time dealing with a seller financed offer. In the future, had I known that we were going to go this route, I would definitely use an agent who has done this before!

We did hear back from the seller and they wanted a pre-approval letter from a lender. I assume that this is to make them feel more comfortable about holding a note and our ability to make the payments.

How do most people work through this issue of proving finances or making the seller more comfortable?

I've told my agent that I would be happy to speak with the seller directly in order to discuss the offer and perhaps make them feel more comfortable with dealing with me. As expected, my agent said that we should only deal through each other's agents and not speak directly. Unfortunately, if anyone is familiar with that kid's game called broken telephone, that is what is happening now. Mass confusion!

Has anyone done seller financing deals with an agent before? Any advice?

As always, thanks for reading! Any comments would be greatly appreciated.

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Advice on buying a seller financed property

Advice on buying a seller financed property

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