Seller financing: it’s something you’ve likely never heard about. However, many people are turning to this useful tactic when acquiring a home either for themselves/their family, or as rental property. So, what is seller financing you ask?
Seller financing, also known as owner financing or seller carryback financing, is a real estate transaction in which the seller of a property provides financing to the buyer instead of or in addition to a traditional mortgage from a bank or financial institution. In a seller financing arrangement, the seller essentially becomes the lender, and the buyer repays the purchase price to the seller over time, typically with slightly higher interest than with a traditional loan.
Here are the key components of seller financing:
- Purchase Agreement: The buyer and seller agree on the terms of the sale, including the purchase price, interest rate (if any), repayment schedule, and other terms. This agreement is typically documented in a promissory note or a financing agreement.
- Down Payment: The buyer may still be required to make a down payment, which is a percentage of the purchase price. The size of the down payment can vary, but it is usually smaller than what would be required by a traditional lender.
- Interest Rate: If interest is charged, the seller and buyer agree on an interest rate for the financing. The interest rate in seller financing transactions is often negotiable and may be higher or lower than prevailing market rates.
- Repayment Terms: The repayment terms outline how the buyer will make payments to the seller. Payments are typically made in regular installments (monthly, quarterly, etc.) over an agreed-upon period, which can vary from a few years to several decades.
- Title and Ownership: The buyer takes legal ownership of the property upon the completion of the sale, even though the seller retains a lien on the property until the financing is fully repaid. In case of default, the seller may have the right to repossess the property through foreclosure, depending on the terms of the agreement.
Seller financing can benefit both buyers and sellers:
- Buyers: Seller financing can be an option for individuals who may not qualify for a traditional mortgage due to credit issues or other reasons. It can also offer flexibility in negotiating terms and potentially lower upfront costs.
- Sellers: Sellers can use seller financing to attract a larger pool of potential buyers, especially in a slow real estate market. It can also provide a steady income stream from interest payments, potentially resulting in a higher sale price.
However, there are also risks associated with seller financing, such as the buyer defaulting on payments (if the seller still has a mortgage) or property value fluctuations. If the seller has a mortgage left on the property, the buyer will almost certainly want to have a clause in the contract mandating that the seller forward periodic statements showing that their obligation (as the first position on the note) is being fulfilled to the bank. In this case, the agreement would be referred to as a “wrap-around mortgage”. Still very much legal, however; the risk does increase when you’re signing on to be the second (or even third) position on mortgage.
In short, seller financing can be a great alternative to a traditional home loan. And, with interest rates near record highs, it never hurts to think outside the box. As always, you should consult a real estate attorney and do as much of your own research as possible. Below are some useful articles to review.
https://www.investopedia.com/terms/s/seller-financing.asp
https://www.lendingtree.com/business/seller-financing/
https://smartasset.com/mortgage/pros-and-cons-of-seller-financing
