Seller Financing in Home Buying

Creative Financing 101: Seller Financed

The normal method of buying a home entails a buyer, a seller, and a lender in the form of a bank or mortgage lender. In difficult economic times, the popularity of seller financing begins to rise. To enter into this type of agreement, the seller must first have a free and clear title to the property. The concept of seller financing (when it comes to home buying) is fairly simple. Instead of the buyer and seller going through a lender, they come to terms as to the price, the repayment agreement, and length of the note themselves; they then draw it up, and the buyer begins making their payments to the seller instead of to a bank. There are a variety of different types of contracts with this type of financing, and benefits for each party, depending on the type.

Types of Financing

Land contracts: Made popular in the 1970’s, land contracts were generally used to finance farms or farming properties; however, they now include a variety of types of real properties, such as homes and businesses. This type of contract does not pass the deed of the property to the buyer until the note is paid off and the buyer is held accountable for all expenses as if they owned it, i.e. taxes, insurance, upkeep, etc. The interest rate is generally lower than most conventional loans, a common down payment of 10% is accepted, and the general length of the loan runs from seven to fifteen years. Each of these variables is negotiable between the buyer and the seller. It is also common for a local bank to “hold” the contract, which means that the buyer will deposit the monthly payment into the seller’s account and the bank will record each of the payments on a separate sheet to verify the payment was made.

Lease purchase agreement: This is very similar to the lease purchase agreement issued for cars, or a rent-to-own agreement issued on furniture and equipment. As with most leases, the buyer has equity and the deed to the property, however, the lease is not for the full term of the note nor the full amount. A typical lease will run five years, and at the end of that time the buyer will seek additional financing to pay the balance for the property. It is generally acceptable that 50% of the lease payments will go towards the total purchase price of the property. To illustrate this principle, say that House X has a sales price of $100,000; the lease is for 5 years; with payments of $500/month; and a 50% application rate. At the end of the lease term, the buyer has paid $30,000 (60 months x $500/month), of which $15,000 (50% application rate) can be applied to the sales price. This leaves the buyer with a balance to re-finance of $85,000 ($100,000 - $15,000).

Mortgages or Promissory Notes: The seller can carry the full mortgage (minus the down payment) of the property with all the terms and agreements of a lending mortgage. The seller can also issue a mortgage with an underlying loan attached to it. This type of mortgage is an "all-inclusive mortgage" or "all-inclusive trust deed" (AITD). The seller can also write more than one mortgage; the first one can run for a specific time and terms, and then when that one is satisfied, enact a second mortgage.

Benefits to the Buyer

The benefits of this type of financing to buyers include the following:

Easier qualifications: The seller will expect that their investment is protected, but generally adhere to less strict borrowing guidelines than banks or mortgage lenders.

Wider payment options: As with other general business transactions, the buyer and seller can negotiate the payment options, down payment amounts, and specifics of the loan outside of a lender’s structure to meet their needs.

Less processing time: Without the restrictions of a lender and their financial processing times, the buyer can take possession of the property faster.