The Facts About Owner Financing

by Tim Plaehn

Under the right circumstances, owner financing can be a win-win situation, with both the seller and the buyer benefiting from having the seller act as the lender on a home purchase. While many potential home buyers would be attracted to the potential for seller financing, the number of home sellers that can offer this feature is very limited.

Seller Must Own Free and Clear

Seller financing is an option if the homeowner that wants to sell does not have an outstanding mortgage balance. For this seller, offering to carry the mortgage for a buyer may allow the home to be sold for a higher price, and the seller also earns the mortgage interest the buyer will pay. The seller has to be willing to accept a monthly mortgage payment instead of a large cash lump sum when selling the house. Since it is more likely that a selling homeowner has a mortgage that must be paid off, there will be a much smaller inventory of available homes that could be purchased with seller financing.

Opportunity vs. Costs for Buyers

Seller financing may be a way to buy a home for someone who may have trouble qualifying for a mortgage. The buyer may be able to negotiate terms with the seller that would not be available from a conventional mortgage lender. One example would be the opportunity to buy with a lower down payment and not pay mortgage insurance. A buyer looking to purchase with seller financing should expect to pay an interest rate that is somewhat higher than market rates for mortgages; the seller needs an incentive to put the sale on long-term financing.

Professional Services Required

The home seller should take the steps and hire the professionals needed to make sure the mortgage contract is properly drawn up and recorded. The services of a real estate attorney can make sure that the seller financing agreement meets all legal requirements and that the mortgage is registered with the proper government agency. It is also a good idea to use a loan servicing company to collect payments from the buyer, make sure the taxes and insurance are paid, and send the monthly payments to the seller. Using a third party to handle the payments protects both sides of the seller financing agreement.

Financial Crisis Changed the Rules for Sellers

Starting in 2014, parts of the Dodd Frank financial law passed in 2010 adds restrictions to how seller financing can be structured. The two biggest new rules are that the interest rate must be fixed for at least five years, and the seller-carried loan must be fully amortizing and cannot have a balloon payment. A seller that build the homes he sells or that enters into more than three seller-finance contracts during the year must follow the additional rules for creditors under the Truth in Lending Act.

About the Author

Tim Plaehn has been writing financial, investment and trading articles and blogs since 2007. His work has appeared online at Seeking Alpha, and various other websites. Plaehn has a bachelor's degree in mathematics from the U.S. Air Force Academy.

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