What is Seller Financing?
Seller financing is a real estate arrangement in which the seller handles the mortgage process instead of a financial institution. Instead of applying for a classic bank mortgage, the buyer signs a mortgage with the seller.
Owner financing is another name for seller financing. It is also called a mortgage on the purchase price.
How Seller Financing Works
Buyers attracted to seller financing are often those who have difficulty obtaining a conventional loan, perhaps due to poor credit. Unlike a bank mortgage, seller financing typically involves little or no closing costs and may not require an appraisal. Sellers are often more flexible than a bank on the down payment amount. In addition, the seller financing process is much faster and often settles within a week.
Key points to remember
- In a seller-financed home sale, the buyer buys directly from the seller and both parties manage the arrangements.
- Often, seller financing includes a lump sum payment several years after the sale.
- Financing the sale of your home involves risk. For example, if the buyer stops paying, you, the seller, could also incur heavy legal costs.
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For sellers, financing the buyer’s mortgage can make it easier to sell a home. During a down real estate market and when credit is tight, buyers may prefer seller financing. Additionally, sellers can expect to get a premium for offering financing, which means they are more likely to get their asking price in a buyer’s market.
The popularity of seller financing rises and falls along with the overall tightness of the credit market. During times when banks are risk averse and reluctant to lend money to other than the most creditworthy borrowers, seller financing can enable many more people to buy homes. Seller financing can also make selling a home easier. Conversely, when credit markets are loose and banks are eager to lend money, seller financing has less appeal.
Like a bank, sellers face the risk of borrower default. However, they must face this risk alone.
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Disadvantages of seller financing
The main disadvantage for buyers is that they will almost certainly pay higher interest than on a market rate mortgage from a bank. Financial institutions have more flexibility to change the interest rate by offering unconventional loans. In the long run, the higher interest offered by the seller could wipe out the savings made by avoiding closing costs. Buyers will still have to demonstrate their ability to repay the loan.
As with any property purchase, they will also pay for a title search to ensure the deed is accurately described and free of encumbrances. Other fees they may have to pay include survey fees, document stamps and taxes. Unlike banks, sellers do not have dedicated employees to pursue overdue payments and file foreclosure notices.
A court can order the buyer to reimburse these costs, but if the buyer is bankrupt, this will not matter. If the seller still has a mortgage note on the property, there is probably an exigibility clause or an alienation clause. These clauses require full repayment of the current mortgage when the property is sold. All of this also means that both parties should employ experienced real estate lawyers to draft the necessary paperwork to close the deal and ensure that all eventualities are covered.
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