A Nontraditional Loan: Is Seller Financing the Right Move for You?

You've found the perfect home. The seller agreed to your offer, but then something goes wrong. Maybe you can't qualify for a mortgage, you haven't saved enough for a down payment, or the mortgage appraisal assesses the house substantially lower than the agreed-upon price. It can happen -- and if it does, you may not be out of luck.

The seller can always agree to seller financing. It will allow you to buy the home, but there are some considerations you'll need to take into account before you agree to the financing.

What is seller financing?

Seller financing is when the owner finances the purchase of his home for the buyer. With a seller-financed home, the owner accepts the role of the traditional lender. The seller can finance the entire mortgage if his personal economic situation allows for a large loan, or he can lend the difference between the buyer's approved mortgage amount and the price of his home. The buyer repays the owner monthly with interest.

Typically, an owner-financed mortgage is repaid in full within a few years on the assumption a buyer can refinance the home with a traditional mortgage after regaining financial footing.

Benefits to seller and buyer

Seller financing can work to the benefit of both buyer and seller.

Advantages for the seller:

  • An owner trying to sell his home in a soft market may offer seller financing in order to entice a buyer and enable the buyer to close the deal.
  • Seller financing can be an interest-earning investment.
  • Because he's financing the purchase, the seller might be able to obtain a higher purchase price or sell the house without doing repairs.

Advantages for the buyer:

  • If your credit history limits the amount you can qualify for, seller financing can help you buy a more expensive home.
  • If you can't qualify for a traditional mortgage, the seller may be willing to finance the entire home.
  • You may get a lower interest rate and may not need to purchase private mortgage insurance.

Do your homework

Both buyer and seller should do their homework before agreeing to seller financing. The seller should evaluate the buyer's credit history as thoroughly as a conventional lender would. The buyer should fill out a credit application with employment information and credit references. The seller must do his due diligence to ensure the buyer will be able to make the monthly mortgage payments.

A buyer should double-check to make sure the house is legally owned by the owner who's offering the financing. You must know if the home is owned outright or if a mortgage or other liens exist on the home. You should also research the market to make sure you're getting a good deal and have a home inspection done before accepting financing.

Legally binding transaction

Hire a lawyer familiar with seller financing to ensure the sale goes smoothly for both buyer and seller. The lawyer will help negotiate and write the contract so that it's legally binding. A lawyer will also ensure the home is used as collateral for the loan, so the seller can foreclose if a buyer defaults on the mortgage payments.

There are quite a few financial implications involved with seller financing. Calculating an interest rate, figuring out an amortization period, and documenting the loan take time and knowledge. Using the services of lawyers, real estate agents, and tax experts with experience in owner financing will help a seller-financed transaction go smoothly.

Updated from an earlier version by Dini Harris

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