Advertiser & Editorial Disclosure Owner financing is a financial arrangement between the seller and buyer of a home. Instead of working with a lender to get a mortgage loan, the buyer makes monthly payments to the seller. If you’re a real estate investor looking to buy your next property for your business , owner financing may be able to give you opportunities you can’t get with traditional mortgage lenders. Before you start looking for sellers who are willing to provide such an arrangement, though, understand how the process of owner financing works and both the benefits and drawbacks to consider.
All of these terms essentially mean the same thing, but we’ll use “owner financing” and “seller financing” for the sake of simplicity.
In general, the terms with a seller financing arrangement will look somewhat different than what you might find with a conventional loan or bank financing.
This is primarily because unlike a lender, which owns hundreds or even thousands of mortgage loans, a seller may only have one owner financing arrangement. This gives sellers a little more flexibility, but it can also pose a higher risk. Here’s a summary of what to expect with owner financing terms.
A home seller doesn’t have any minimum down payment requirements set by a bank or government agency. Instead, they can choose their own requirements based on how much risk they want to take.
In some cases, you may be able to find an owner financing arrangement with a low down payment. But you’re more likely to see higher down payment requirements, some as high as 25% or more.
That’s because the down payment amount is what you stand to lose if you default on the loan. The higher your down payment, the more “skin in the game” you have, and you’re less likely to stop making payments.
Whatever the seller asks for, however, it may be negotiable. So if you don’t have the amount of cash the seller wants or you do but want to maintain an emergency fund, ask if there’s any wiggle room.
Because a seller doesn’t have a large portfolio of loans to help reduce the risk of one or two borrowers defaulting, you can generally expect to pay a higher interest rate to compensate them for that risk.
In some instances, you may see interest rates as high as 10% (or more), depending on your creditworthiness, down payment and the overall structure of the deal. In others, interest rates may be lower.
A 30-year mortgage is pretty typical for a standard mortgage loan, though you may choose to go down to 15 years instead. With a seller financing agreement, you may be able to choose a 30-year repayment, but the term will most likely be much shorter than that.
For example, the loan may amortize over 15 or 20 years, because the owner doesn’t want to drag out the process over three decades. Alternatively, you may get a longer repayment term to keep the monthly payments low, but the seller may require a balloon payment after five or 10 years to pay off whatever remains of the principal balance at that point.
Find The Right Financing For Your Business
Don't waste hours of work finding and applying for loans you have no chance of getting — get matched based on your business & credit profile today.
Every owner financing arrangement is different, but to give you an idea of how it might be structured, here’s an example of a loan with a 30-year repayment term and a balloon payment after 10 years.
| Asking price | $200,000 |
| Down payment (15%) | $30,000 |
| Amount financed | $170,000 |
| Interest rate | 8% |
| Repayment term | 30 years |
| Balloon | 10 years |
| Monthly payment | $1,247.40 |
| Balance at 10 years/balloon payment due | $149,131.96 |
| Total of all payments to the seller | $328,819.96 |
Now, let’s say you can negotiate with the owner of the home and exchange a higher down payment for a lower interest rate and a balloon payment at 15 years. Here’s how that might look.
| Asking price | $200,000 |
| Down payment (25%) | $50,000 |
| Amount financed | $150,000 |
| Interest rate | 6.5% |
| Repayment term | 30 years |
| Balloon | 15 years |
| Monthly payment | $948.10 |
| Balance at 10 years/balloon payment due | $108,839.24 |
| Total of all payments to the seller | $329,497.24 |
In the second scenario, you would save on the loan’s monthly payment. But because you’re drawing out the repayment for five more years, the interest catches up, and you’ll end up spending a little more than with the first option.
There are plenty of benefits of owner financing for both the seller and the buyer. Anyone who has applied for a mortgage through a bank or financial institution knows it can be a hassle. A mortgage loan originator will ask for significant documentation. Seller financing can be an easier process. Depending on which side of the deal you’re on, here’s what you need to know.
Flexible down payment : While some sellers may require higher down payments, some may offer to take less than what a bank might require for the same financing deal.
1-800Accountant is ideal for small businesses. Our dedicated team of experienced accounting professionals and Learn More
While there are some pros to using seller financing over a traditional mortgage, there are also some clear drawbacks that might make you think twice before entering such an agreement.
If the owner has an existing mortgage loan on the property, it likely has a due-on-sale clause attached to it. There are some situations, however, where the lender may agree to seller financing under certain conditions. And there may be other ways to make it happen without involving the original mortgage lender at all.
Here are a few ways you can structure an owner financing deal if there’s already a loan on the property, as well as a couple where the seller owns the property outright. As you think about which one is right for you, consider hiring an attorney to help you draft up the agreement to avoid potential problems down the road.
With this arrangement, you effectively take over the monthly payments on the seller’s mortgage loan, but they’re still legally responsible for making the payments under their contract with the lender — in fact, the lender may not even know that you’ve assumed the monthly payments.
This means that if you stop making payments, they’re still on the hook, and it could ruin their credit if they don’t take up payments again. In addition, if the holder of a residential mortgage loan becomes aware of this arrangement they may call the loan due immediately.
The setup may work if you already have a relationship of trust with the owner. But otherwise, don’t expect many sellers to get excited about this option because of the increased risk they’re required to take on.
With a wraparound mortgage, you’re creating a loan that’s big enough to cover the existing loan plus any equity the owner has in the property.
You make the payment on the larger wraparound mortgage, and the owner takes a portion of that amount to make the payment on the original mortgage loan. The difference between the payments is the owner financing on the equity portion of the home.
The primary drawback of a wraparound mortgage is that it’s junior to the original mortgage loan. So if the owner of the property stops making payments on the first loan, the lender may foreclose on the home, leaving the buyer high and dry.
With this setup, you ultimately lease the property from the seller with an option to buy it. In some cases, you may even have a contract drawn up to buy the home at a set date in the future. This option allows the buyer to ensure control over the property, and it can give the owner some time to finish paying off the original mortgage loan.
As with a wraparound mortgage, however, the buyer is still at the mercy of the owner, and if the latter defaults on their loan, the lease agreement will no longer be in effect when the bank forecloses.
A contract for deed is a common option for seller financing that we’ve covered in detail above. It works only when the seller owns the home free and clear because the owner holds onto the property title while the buyer makes monthly payments.
Once the buyer finishes the repayment term — which can be whatever the two parties agree to — they’ll receive the deed to the home. If they default, however, the owner retains the deed and can repossess the home.
With a rent-to-own financing arrangement, the buyer moves in and rents the home, with a portion of their monthly payment acting as a deposit or down payment, which they can use to purchase the home down the road.
For example, let’s say you pay $1,200 per month, with $1,000 covering the cost to rent the home and $200 — this is sometimes called the rent premium — going into an escrow account.
There are different ways to set up a rent-to-own agreement. For example, the tenant may have the option to buy the home at any point during the lease, or they may be required to buy at the end of the lease.
If the buyer doesn’t go through with purchasing the home, the seller may be able to keep the rent premiums. As a result, this may not be a good choice if you’re on the fence or want to avoid the risk of something changing.
Owner-financed commercial property sales or owner financed land sales are not uncommon. A commercial property owner may have any number of reasons for being open to this type of real estate transaction, including all the above benefit, plus tax advantages. Owners of commercial or rental properties, unlike homeowners, may not need an immediate lump sum from a sale to buy another home.
The commercial real estate industry has been hit hard by the coronavirus crisis in many parts of the country. It has become increasingly difficult to get certain types of small business loans , including some commercial real estate loans. That may lead to sellers being open to creative financing options.
If you are a potential buyer, don’t be afraid to ask whether the seller is open to this type of arrangement. If you are an investor, consider offering seller financing to attract more prospective buyers. Tip: Always check a buyer’s personal and business credit scores so you’ll be alerted to potential risks.
As we researched how owner financing works, we came across several questions about the process and how to know if it’s right for you. Here are some of the more common questions, along with their answers.
One of the benefits of using owner financing instead of a traditional mortgage loan is that you’ll save on closing costs . That’s because you won’t have to deal with any lender fees, such as application and origination fees, interest points, and more.
That said, you can still expect some closing costs with a seller financing arrangement. For example, your local government may charge a fee to record the sale of the home, and you might want to get an appraisal to ensure you have the right sales price. Also, there may be a fee associated with transferring ownership of the property to the buyer.
Finally, some counties may require that you have an attorney run a title search before completing the sale to make sure there aren’t any other claims or liens that could come up later.
While the cost of these fees won’t be anywhere near what you’d expect to pay on a mortgage loan, it’s still important to make sure you have enough cash to cover them.
In most cases, a seller financing agreement won’t help your credit in any way because the owner likely won’t be reporting your monthly mortgage payments to the national credit reporting agencies. There are, of course, some exceptions to this rule, especially if the owner is a business that meets the credit bureau requirements for credit reporting.
While there’s not a lot of potential upside for your credit with owner financing, it could damage your credit if you default and the owner hires a debt collection agency, which will report the past-due debt.
There are plenty of reasons to consider owner financing, but if you’re hoping to use it to build your credit history, you may end up disappointed.
Start your business credit journey
Build business credit, monitor credit health, and accelerate growth — all with Nav Prime.
The terms of an owner financing agreement will depend on what both the buyer and seller are willing to accept. Once you’ve nailed down the specific terms of the loan, you’ll want to run the numbers to make sure it’s affordable.
Start by using an online mortgage calculator to determine your monthly payment using the mortgage amount, amortization term and interest rate. If the agreement includes a balloon payment, use a mortgage balance calculator to see how much the principal balance will be after you’ve made the predetermined number of monthly payments.
To get the total amount you’ll pay to the seller, multiply the monthly payment amount by the number of payments before your balloon payment. Then add that figure to the balloon payment amount and the down payment amount.
Going through this process will help you not only determine whether you can afford the monthly payment and the balloon payment, but also how much financing you need if you can’t afford the balloon payment when it’s due.
In the right circumstances, owner financing is a safe way to finance an investment property or even a residential home. That said, not all buyers and sellers are experienced in the process. Also, there are always risks inherent to an owner financing arrangement, even if both the buyer and the seller are acting in good faith.
As you consider both the benefits and drawbacks of owner financing, it’s up to you to determine whether you’re comfortable with the process and how to proceed. While you can find seller financing contracts and owner financing addendums online, this is one time where you don’t want to skimp. Whether you’re a buyer or a seller, take time to vet the other party to establish trust, and be sure to hire an attorney to help draw up the arrangement so it’s legally sound.
This article was originally written on November 1, 2019 and updated on November 6, 2019.
Start your business credit journey
Build business credit, monitor credit health, and accelerate growth — all with Nav Prime.
This article was originally written on November 1, 2019 and updated on December 14, 2021.
This article currently has 9 ratings with an average of 5 stars.
Ben Luthi is a personal finance and travel writer who loves helping consumers and business owners make better financial decisions. His work has appeared in several publications and websites, including U.S. News & World Report, USA Today, Marketwatch, Yahoo! Finance, and more.
Have at it! We'd love to hear from you and encourage a lively discussion among our users. Please help us keep our site clean and protect yourself. Refrain from posting overtly promotional content, and avoid disclosing personal information such as bank account or phone numbers.
Reviews Disclosure: The responses below are not provided or commissioned by the credit card, financing and service companies that appear on this site. Responses have not been reviewed, approved or otherwise endorsed by the credit card, financing and service companies and it is not their responsibility to ensure all posts and/or questions are answered.
California loans arranged pursuant to Department of Financial Protection & Innovation Lenders License 60DBO-98588
Advertising Disclosure
The credit card, financing and service products that appear on this site are from credit card, financing and service companies from which this site receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). This site does not include all credit card, financing and service products or all available credit card, financing and service products. All images and trademarks are the property of their respective owners. Editorial and review content is the property of Nav, and has not been approved, provided, or reviewed by the company providing the credit card, financing, or service.
For complete information, see the terms and conditions on the credit card, financing and service issuer’s website. In most cases, once you click “apply now”, you will be redirected to the issuer’s website where you may review the terms and conditions of the product before proceeding. While Nav always strives to present the most accurate information, we show a summary to help you choose a product, not the full legal terms – and before applying you should understand the full terms of products as stated by the issuer itself.
Personal FICO credit scores and other credit scores are used to represent the creditworthiness of a person and may be one indicator to the credit or financing type you are eligible for. Nav uses the Vantage 3.0 credit score to determine which credit offers are recommended which may differ from the credit score used by lenders and service providers. However, credit score alone does not guarantee or imply approval for any credit card, financing, or service offer.
Editorial Disclosure
Any personal views and opinions expressed are author’s alone, and do not necessarily reflect the viewpoint of Nav. Editorial content is not those of the companies mentioned, and has not been reviewed, approved or otherwise endorsed by any of these entities.
Reviews are not provided or commissioned by the credit card, financing and service companies that appear in this site. Reviews have not been reviewed, approved or otherwise endorsed by the credit card, financing and service companies and it is not their responsibility to ensure all posts and/or questions are answered.
