When selling a home, financing is usually something that is entirely the buyer's responsibility. The seller collects a check or receives a wire after the loan goes through and all the fees are paid. However, adventurous sellers who are open to alternative finance options may wish to explore seller-financing.
What is seller financing and how does it work? If you have a strong buyer who nonetheless does not have access to traditional financing, there can be distinct advantages to financing them yourself. You just need to be sure that you can, or want to, deal with the potential drawbacks of this unusual finance option.
Here we highlight some of the potential pros and cons of offering seller-financing.
Please note the below is for informational purposes only, and is not intended to serve as legal or financial advice. Always consult with real estate, financial & legal experts.
Higher Effective Sales Price
PRO: Your sales price is effectively higher when you offer to seller-finance, as you'll get not just the purchase price of your home but also the interest that the buyer pays over the life of the loan. Most sellers collect a down payment right away, often equal to about 20% of the selling price. They'll also collect a healthy interest rate on their money for the term of the loan.
Wider Array of Buyers
PRO: Regardless of the market conditions, seller-financing can help attract a wider array of buyers who may not qualify for or feel comfortable with a traditional mortgage. There may may also be a opportunity to work with otherwise highly-qualified self-employed individuals who may not have the precise documentation required in order to qualify for a fully underwritten bank loan.
Quicker Sale of a Difficult Property
PRO: Do you need your property to sell quicker? Every month that your home doesn't sell, you have to pay for insurance, utilities and other services associated with the house. This can significantly cut into earnings from the sale. Plus, if you are making mortgage payments on two homes at once, this can cause a significant strain on household finances. If your home is not moving as quickly as you'd like, putting seller-financing on the table might raise additional interest from buyers.
Chance to Offer Incentives Few Sellers Will
PRO: You are offering an incentive that few sellers do. Only about one in 10 houses on the market offer seller-financing. If you are willing to do this for a buyer, you put your home into a very exclusive club. This perk can give you the chance to sell for a higher amount than might otherwise be possible. On the other hand, offering to finance a sale on your own also has a few possible drawbacks to consider.
Are You in a Position to Offer Seller Financing?
CON: Can you realistically offer seller financing? How does seller financing work? In most cases, this is only on the table for people who have 100% ownership of their home. Most mortgages have due-on-sale clauses. If you still owe on your mortgage, you will most likely have to pay off the balance as soon as you sell. Since most people do not have the funds on-hand to do that, it usually comes out of the proceeds when they sell their home.
You’re Tied to the Property
CON: When you sell a home to someone that uses a conventional mortgage or other traditional form of payment, once the transaction is complete, you can move on. Offering seller financing ties you to the home and the property for the duration of the mortgage period. Since you are the lienholder for the home, there is a chance you may have to foreclose – and if you live far away, this can rapidly become a nightmare.
You may not mind being tied to the property for now, but if you want to move across the country, need to raise capital more swiftly or simply don’t want to cope with the long term responsibilities of seller financing, this may not be the best deal for you. The spectre of foreclosure also means that you could once again become responsible for your former home – and have to go through the selling process all over again.
Questions about seller financing? Always consult with an attorney and financial advisor before offering to buyers.
Some sellers get around this by keeping the home in their name and continuing to make payments on the mortgage out of the payments received from the new owner. However, this arrangement can lead to a lot of pressure. If the buyer stops paying, will the seller be able to pay the current mortgage? If not, they could end-up with a foreclosure years after the home was sold. Remember to always consult with an attorney!
Will You Do the Due Diligence a Lender Would?
CON: If you wish to seller finance, you should perform due diligence of the prospective buyers the same way a bank would. Ideally, a seller who plans to finance will require a loan application and income approval. If doing this seems overwhelming, you run a significant risk of losing money or seeing damage to your property.
Can You Earn a Better Return Elsewhere?
CON: Are there better options for a return elsewhere? Collecting the interest on a 15- or 30-year loan on your home can put more money in your hands than taking the sales proceeds all at once. Seller-financed loans often earn twice what traditional mortgages do.
Presently, experts put the average at 7 to 10%. However, you may be able to get a better return on your money by investing in another property for a quick profit, or putting money into stocks or other traditional investments. Examine all options before tying up such a large portion of your assets in a single investment.
Will the Buyers be Reliable?
CON: Offering contract for deed homes requires that you trust the buyers to be reliable. It is true that you can find more and different types of buyers by offering to finance yourself. However, it's important to keep in mind that when you take on buyers who may have already been rejected by banks, that you open yourself up to a level of risk the banks considered unacceptable.
Can You Wait to Receive Full Market Value of the Home?
CON: You must be prepared to wait on receiving the sales price of your home. Some seller-financing arrangements call for a traditional 15- or 30-year mortgage. Many more involve a 30-year amortization with a balloon payment due at five years. By structuring it this way, you can get the balance owed when the buyer refinances. However, even five years can be a long time to have the profits from your home tied up. If you will need the money sooner, say for retirement or college tuition, seller-financing may not be a good fit for you.
Bottom Line: Each home and each seller is unique. What works well for one seller may not for you. By considering all of the potential pros and cons of seller-financing, you can decide what's best for you and your family. #hw
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