If I gave you the choice between getting $100 today or $1 per month for the next 30 years, which would you take? Most of you would want the $100 right now, but if you do the math, $1 per month for 30 years is $360, which is more than three times the lump sum of $100. Still want the $100?
Some of you reading would take the $1 a month, whereas others would take the lump sum. It all comes down to personal choice. The same principle this question demonstrates is true for home sellers. Many homeowners who own their house free and clear would rather take the cash and move on. However, for a large number of sellers, the value of getting monthly payments outweighs the need for a large lump-sum check.
Let’s look more closely at why owners might choose to sell via seller financing rather than just getting cashed out.
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4 Reasons Property Owners Might Choose to Sell via Seller Financing
1. Monthly Income
Perhaps the most common reason sellers would prefer to sell via seller financing is to get monthly income. As in the $100 or $1 per month example I used, a lot of individuals would simply prefer to steadily receive checks each month instead of one lump sum. This is especially true for older sellers on a fixed income who need stable monthly income to survive and pay the bills. A $100,000 chunk of money would last only so long for a seller, but if that income were financed over 30 years, the money would last them much further into retirement.
2. Better ROI
Many homeowners choose to sell with seller financing because the interest they get from the financing is greater than they would likely get elsewhere. For example, if a homeowner were to sell a home for $100,000, they could put that money into a certificate of deposit at the bank and receive 1.5% annual percentage yield, or they could seller finance their home and get 6%, 8%, or more.
Related: 5 Reasons to Consider Seller Financing for Your Investments
Many seasoned real estate investors understand this concept and eventually move their portfolio from a “holding” phase to a “selling” phase, using seller financing to avoid the hassle of being an owner, while still collecting monthly income by carrying the
contract. Therefore, some of the best possible candidates for seller financing are other real estate investors who are changing their
strategy. (On a side note, this is another reason making friends with as many local real estate investors as you can is so important.
When they are ready to get out of the landlord game, they may choose to sell to you and carry the contract in the process.)
3. Spread Out Taxes
Anytime you make money, the government wants its share, and when you sell real estate, it’s no different. This issue may not be as important for homeowners, because of the IRS rule that allows homeowners to avoid paying taxes on up to $500,000 in profit from selling their primary residence, as long as it meets certain specific criteria.
However, real estate investors are not so lucky and are must pay taxes when they sell. For example, if an investor spends 30 years
paying off a rental property mortgage and now owns the home free and clear, and he decides to sell the property for $100,000, that investor would need to pay taxes on that gain, which could result in a hefty tax bill.
Related: The Pros and Cons of a Seller Financed Deal for Seller and Buyer
Therefore, many investors choose to sell using seller financing rather than getting a lump sum, to spread out most of those tax
payments over the life of the loan on the seller financed property. You see, the IRS has special tax rules for installment sales, such as ones using seller financing, so the seller may need to pay only a small portion of that tax bill each year while the loan is being paid off. Be sure to talk to a CPA for more details on this.
4. Can’t Sell Otherwise
Many properties simply are not sellable to a typical bank-financed borrower because they are in such poor condition. Seller financing can allow the seller to unload such a property without needing to fix it up first.
[This article is an excerpt from Brandon Turner’s The Book on Investing in Real Estate With No (and Low) Money Down.]
Have you used seller financing before? Any other motivations you’ve seen that convince owners to go this route?
Leave your comments below!