Owner financing can help both the buyer and seller find a more favorable alternative to traditional home loans and mortgages. Owner financed homes can usually be found through real estate agents or online listings and are advertised quite obviously as having the option of using seller financing.
If you find owner financing homes for sale that you may be interested in, it is important to remember that owner financing comes with many pros and cons for both the buyer and the seller.
What Is Owner Financing?
Owner financing is a type of seller financed mortgage. This means that instead of borrowing from a bank or other traditional lender in order to finance a home purchase, a buyer can finance directly through the seller. In seller financing, the owner sets the terms and conditions for the loan and the buyer can negotiate them before signing and accepting the owner financing contract, known as a promissory note.
Buyers should be aware that sellers can run a credit check on them before accepting or rejecting their agreement to enter a contract with them, so owner financing may not always be available even if it is advertised as a selling point of the home.
Pros for the Seller
Gain More Money From the Sale
The seller benefits from owner financing because they will receive more money back for their home through interest and monthly payments from the buyer than they would if they had simply sold the property upfront through a bank or lender. Instead of only making back the asking price for their home, sellers can also increase their profits through interest payments.
Close the Sale Faster
Another advantage sellers have when they decide to go with owner financing is that they are able to close sales faster. Many buyers are interested in owner financing options and will look specifically for owner financing homes when they enter the market.
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Additionally, buyers will not need to wait to be approved for a mortgage by a bank, so the seller will be able to close a sale much faster.
Sell The Home Without Changes
Sellers also do not need to change anything about their property to meet lender standards if they choose to finance a buyers purchase instead of having them go through a bank or other traditional lender. Usually banks will send someone to inspect a property in order to approve a loan, which could lead to additional costs for the seller. However, when the owner finances the home purchase for the buyer, no changes will usually be required and a seller can sell their home as is.
Set the Terms of the Sale
Finally, because the owner creates the promissory note that will be the contract the buyer must sign to accept owner financing, they can make the terms as advantageous to them as the law allows. For example, through the promissory note, the seller sets the monthly payment amount, the interest that needs to be paid on the loan, the down payment amount that is required and more.
Pros for Buyers
Alternative to Traditional Financing
The greatest advantage buyers have through owner financing is that it gives them the opportunity to finance a home purchase if they cannot be approved for a mortgage or traditional financing from a bank or other entity. This means that buyers who may not be able to afford a nice home for their families may still be able to finance a purchase on a good home.
No Extra Fees
Another pro for buyers is that they will not need to pay any extra service or closing fees to a traditional lender. There are many fees involved in applying for a mortgage and securing a mortgage, such as paying for appraisal fees or closing costs. With owner financing, there will be no need to pay an appraisal fee unless you wish to get the home inspected yourself and you will not need to pay any closing costs as the owner will finalize the sale with you rather than through a bank or other lender.
Faster Purchase Process
Similar to how owners can sell their homes faster through owner financing, buyers can purchase a home faster as well. Since buyers will not need to jump through hoops and have to wait for lenders to approve their mortgage requests and the terms and conditions of the loan, it will be much faster for buyers to close a sale on a home.
More Favorable Loan Terms
The final pro to buying a home through owner financing is that the terms of the loan are usually more favorable to the buyer than they would be through a traditional lender. Because the buyer and seller will be negotiating the contract, or promissory note in this case, between themselves and not through a third-party, there is more room for easy communication. Through a more direct communication path, owners and buyers can set more favorable terms that will benefit both of them through the duration of the agreement.
Cons for Sellers
Risk of Default
Perhaps the greatest con of owner financing is the risk of a buyer defaulting on their payments. If a buyer stops paying the mortgage payments, there is a very real risk that the home may go into foreclosure, and since the seller is the lender in this case, they would need to deal with the banks and the foreclosure process. Because this is such a big risk, it is always recommended to check the credit history of the buyer before a contract is signed.
There are some instances where a buyer defaults on their payments and the seller is able to keep the home and downpayment to attempt to reinvest in the home, but this is not usually the case.
Possible Repairs
If something goes wrong with the buyer and the contract is broken, the seller may need to deal with more than just defaulted payments. If the property has been damaged in any way by the buyer, the seller will need to pay for repairs themselves if they wish to put the home back on the market.
These repairs can be minor or major depending on the damage caused by the buyer while he or she was in possession of the property. From having to replace a broken door knob to an entire bathroom, these repairs can be unpredictable and could set back a seller thousands of dollars.
Cons for Buyers
Larger Down Payments
One negative of investing in seller financing real estate is that they usually require quite a large down payment. Because buyers who are interested in owner financing usually do not qualify for a traditional mortgage, sellers often up the percentage of the down payment as a type of security measure to ensure a buyer can at least afford to pay a large part of the home value.
Traditional down payments are usually 15 to 20 percent of the purchase price of the home, or less if you are eligible for government home loans. In comparison, owner financed home options usually require a down payment of 20 percent or more and the final percentage will depend completely on what the seller requests on the contract.
Higher Interest Payments
In addition to an increased down payment, buyers may also encounter very high interest rates when they opt for owner financing. Similar to the large down payment amounts, choosing a high interest rate is a form of insurance for sellers who do not know if they can fully trust a buyer. High interest rates can end up costing you more than if you had gone with a traditional mortgage provider, so be sure to negotiate interest rates properly with your seller.
Possible Balloon Payments
Because owner financing is usually only temporary and many sellers expect buyers to eventually refinance owner financed homes, the seller usually sets a balloon payment at the 5 or 10 year point. Balloon payments are large payments that usually occur at the end of a financing period. At that point, the buyer’s final payment under owner financing would be significantly more than their previous monthly payments, sometimes even double. However, there are new laws that prohibit the abuse of balloon payments in buyers markets so this might not always be the case.
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