While many homeowners try to sell on their own, depending on the market, their homes usually sell for less. However, depending on the health of your local market, selling on your own might be a smart move. If you're asking yourself "How does seller financing work?", you might be taking the first step to selling your home all on your own.
Here is everything you need to know about seller financing.
Understanding Seller Financing
If you're in a market where credit is tight and it's hard for people with less than stellar credit to get a loan, seller financing is a great option. If you're selling a house under these circumstances, you might get some great offers from people who you trust but who can't get help from banks.
In this case, you can finance them. You can also get a massive return on your initial investment this way. Not only do you collect whatever value your home has appreciated, but you also get interest from financing.
Buyers can get the home of their dreams without the strict down payment needs or qualifying terms that financial institutions set out. By setting a more flexible rate, sellers can help buyers and buyers will, in turn, allow sellers to get rid of their homes faster.
If your home is just barely out of reach for strongly qualified buyers, you can lend them a hand.
By taking on the role of becoming their financier, you take on a few logistical hurdles but help everyone out. If you take the right precautions, you'll get your home sold quickly without worrying about taking on much risk.
How It Works
Seller financing requires you to take on the role of the lender while also being the seller. Because of this, you can imagine the money you'll save cutting out a middleman.
Rather than giving cash to the buyer, you'll extend a credit line that will help them to purchase the home. Subtract the down payment, set on your terms, and you'll then create a promissory note that outlines the terms of your loan. Your mortgage will be recorded with the state or the town and then over time, the buyer will pay you back for the loan, with interest.
However, you're not going to be tied to this buyer for the next 30 years, as would be typical with a traditional home loan. This is a short-term loan. After your buyer has put in enough money, they'll have gained value that will allow them to refinance the home with a lender.
This is a practical concept as well because you won't want to have to wait 30 years for the loan to be completely paid off. Financial institutions anticipate being around for more than 100 years beyond the day they deal with the buyer, so they won't bristle at the 30 years.
As a seller, you're in a great position to offer to finance once you've paid off the mortgage. You'll take on very low risk, get a lot of return, and in the case your buyer defaults, you'll be left with everything they've paid either way.
Extending a Junior Mortgage
One of the more common types of financing arrangements is a junior mortgage. With this type, you'll be able to engage in seller financing at a fairly low risk.
Lenders don't usually like to finance more than 80% of the price of a home. If the buyer can't pay more than 20% as a down payment, that speaks to their ability to raise capital. If a buyer can't get that money together, the risk of them defaulting on their loan is high.
As a seller, you can extend credit to the buyer to make up the difference. This is a second mortgage, to make up that gap between the 80% they've taken out with a bank and whatever percentage is left that wasn't paid as down payment.
The only risk you're taking is that if the buyer goes ahead and defaults, you won't be as high of a priority as the financial institution. If they default, the bank will get repaid long before you do.
If there's a foreclosure or the home is repossessed, mortgages are repaid in the order of priority. Second, third, or junior mortgages come along after the first mortgage lender gets what they're owed. If the home is sold and there aren't enough proceeds to pay you back, you could lose out.
Offering a Land Contract
If you offer your buyer a land contract, you maintain a degree of control over the property. When a land contract is granted, the buyer isn's granted the title in full. Instead, they get an "equitable title". This means that the ownership is shared with the buyer and seller.
While the buyer will make payments to you, this can be a long process depending on the terms you set out. Your buyer is responsible for paying you and once the final payment is submitted, the deed is then given to the buyer.
Lease Options Can Work
If you want to lease the property under a contract, as if it were being rented, you can do that. In some cases, the rental payments are credited against the price of the home.
However, if you had no intent on becoming a landlord, this can be a headache. If you offer a lease option, you're going to be on the hook for much longer.
This is a good option if you're dealing with family or friends. Lease options come in all shapes and sizes.
How Does Seller Financing Work? It Takes Time
If this is your first time selling on your own, answering "How does seller financing work?' is going to send you on a steep learning curve. However, investors and homeowners alike enjoy this method that's empowering and hands on. If you're looking to grow a business or an investment firm, seller financing gives your profits a serious bump.
If you want to learn more ways that your business could be invested in your community, check out our latest guide.