Seller Financing Options

I’m starting to get letters from desperate sellers who are quite anxious to unload their properties. They don’t want to lower their price any further, and in some cases have made further improvements to their property.
 

What’s left? You can give a cash bonus to the buyer, or the buyer’s agent. Cash, free trips, free cars, and other perks will help your property stand out.

Or, you may want to act like the bank and offer seller financing, or pay down the buyer’s interest.

When you become the bank, you lend the buyer the cash he or she needs to purchase your home. The buyer pays you back each month by making a mortgage payment that usually consists of principal and interest.

With interest rates as low as they’ve been in the past 10 years, and creative financing techniques such as pay-option adjustable rate mortgages becoming more popular, interest in seller financing has fallen off.

But while it’s easier to go to a bank, going with seller financing will be less expensive for buyer, who can save several thousand dollars in lender fees. With the price of homes as high as they’ve become, every few thousand dollars saved is a big help.

On the seller’s side, seller financing has always been a way to get a higher rate of return for your investment than putting your money in a savings account. If you put $100,000 in a savings account, you’d earn roughly 5 percent on your cash. But if a home buyer sets up a 15-year mortgage at 6.5 or 6.7 percent, you’ll earn a higher rate of return on your money. And, since the buyer will be paying you principal and interest, you’ll have a very healthy cash flow.

But there are risks associated with a seller financing a buyer and those risks may include having a buyer default on your loan and having to take the home back. You’ll need to talk to a good real estate attorney to draft the loan documents and protect your interests.

If you’re going to consider seller financing, there are several different types from which to choose:

• Purchase money mortgage (PMM). A PMM is a standard mortgage in which the buyer makes monthly principal and interest payments according to an amortization schedule. If you’re financing the entire amount of the purchase, you are the primary lender. Only a federal income tax lien or a real estate lien (for unpaid real estate taxes) would take a higher priority over the primary lender.

• Articles of Agreement. Also known as an “installment sale” or “installment purchase” the net effect is that you’re allowing the buyer to purchase the property a little bit at a time. The buyer receives an interest in the house, but you hold title until the buyer has paid off the loan in full.

• Second mortgage or home equity loan. Often, a first-time buyer can qualify for a loan but doesn’t have enough cash for the down payment required. So you make up the difference between the first loan and the sales price of the home.

While sellers regularly financed second mortgages up until the early 1990s, the home equity market has become so competitive that interest in having sellers do this has dried up to a great extend. Today, lenders offer “piggy back” mortgages, or a first loan with a higher-priced home equity loan on top to make up the difference between the down payment, first loan and the sales price of the house.

• Buying down the rate on the buyer’s mortgage. While this isn’t seller financing, it is something you might decide to offer in order to increase the odds that you’ll sell your home quickly.

If the interest rate on the buyer’s loan is 7 percent, and you want to buy down the interest rate for 3 years, you would pay the difference in interest between what the buyer would owe at 7 percent and whatever interest rate you think would be meaningful.

Often, the interest rate in a buy-down situation would be several percentage points less than the going rate. So, you might buy down what would normally be a 7 percent interest rate to 4 percent for 3 years, or you might step it up and buy down the rate to 4 percent for year 1, 5 percent for year 2, and 6 percent for year 3. In the fourth year of the loan, the rate would go back to 7 percent.

If you decide to offer a purchase money mortgage or sell your home through an articles of agreement or installment sale, you must have paid off all or most of your mortgage. If you haven’t, your lender could find out and call your mortgage, which means you’ll have to pay off your loan in full immediately, or risk having your home go into foreclosure.

In your mortgage is a “due on sale” clause, which means that the entire mortgage must be repaid if the property changes hands.

And again, if you’re going to offer any form of seller financing, be sure to work with a competent real estate attorney who can draft financing documents that will protect you.

NOTE: This column is distributed by Real Estate Matters Syndicate, PO Box 366, Glencoe, Illinois, 60022. This column may not be resold, reprinted, resyndicated or redistributed without written permission from the publisher.