Owner financing, also called seller financing, puts the seller in the position of lender during the sale of a property.
Example: Suzy is selling a home she has owned for 17 years. The current market value is 400,000, and she owes the bank only $92,000. Harold & Carrie are purchasing the home. They are bringing $100,000 down payment plus closing costs.
Instead of getting the 300,000 mortgage from a bank, Suzy can create a promissoryÂ note which both she and the buyers sign. Suzy thenÂ records a mortgage on the property title with the County, which creates a lien on the title, so that Harold & Carrie cannot sell the house without paying her in full. This is how banks protect their mortgages as well.
Instead of getting $300,000Â -transaction fees at the close of escrow, Suzy begins receiving mortgage payments from HaroldÂ & Carrie according to the terms on the promissory note.
If Suzy needed a big down-payment to buy a new house, this plan would not work for her. However, because she doesn't need to get cash right awayÂ for the equity in her home, she actually makes more money over time. In addition to repaying her equity, Harold & Carrie will pay interest and possibly origination points and/or late fees. Over 30 years, interest payments can exceed the original amount borrowed. Suzy also retains the right to foreclose and take back the home ifÂ Harold & Carrie don't meet their agreement to pay the mortgage.
Owner financing also helps sellers avoid big tax payments because instead of receiving a big lump sum this year, Suzy is receiving smaller sums each year. She will only pay taxes on the money she takes in, which can reduce her tax load.
Owner financing helps buyers who are good credit risks but do not have good credit. Business owners who have no W2's to prove income, or people recovering from a financial setback might not qualify for a traditional mortgage these days. Buyers may have to pay a little more for seller financing, but they avoid the trials and tribulations of qualifying for institutional lending.
Owner financing does not have to cover the entire amount being mortgaged. Some sellers lend on part of their equity as a second lender, with a traditional lender in first position.
Also, owner financing does not have to be a 15 year or a 30 year amortized loan. Perhaps Suzy wants regular, amortized payments for five years with a balloon payment (buyers refinance) after 5 years.
In summary, owner financing is possible when a seller has equity and does not need to cash out immediately. To sellers, owner financing offers tax benefits, increased income and a greater pool of qualified buyers. To buyers, owner financing is an opportunity to buy right now even if traditional loans are not an option.