Until recently a property buyer would be expected to source and arrange for financing and the seller expected to receive all cash at closing.  The challenges presented by the recent problems in the credit market has made it more difficult for many buyers to qualify for standard institutional financing.  Still, the seller usually expects to be paid cash on the sale of the property.

When the seller simply expects to receive cash at closing they overlook an important opportunity particularly if they have a significant equity position in the property.  That is, they could finance part or all of the sale themselves.

There are huge benefits and some risks with this approach to the seller financing of property.  One significant benefit is that buyers might pay a little more for a property if seller financing was an option.  It is now possible to find willing buyers for properties that are harder to sell as well.  When seller financing is an option buyers that might not otherwise qualify for a standard bank loan will now be able to buy your property.  These buyers might be willing to pay more, make a larger down payment and take a higher interest rate.  On the other hand, there is a possibility that this type of buyer may be a greater risk for default as well.

If a seller has larger equities they can often get higher interest rates on their money by self financing the property for buyers than if they sold the property for cash and deposited the money in the bank.  Interest rates at banks run from 1.5 to 2.5%.  Seller financed mortgages earn between 5.25 to 7.5% interest.

This way of dealing with equity is attractive to mature property owners who need the money for retirement.  Problems develop when potential defaults can leave this type seller vulnerable if the buyer cannot or will not make the payments.

Another key benefit is that note that is created by seller financing can be resold for cash at a simultaneous closing or at another time (sometimes called a cash flow note).  Structuring your note correctly can often yield more for the seller than the cash received from a straight sale.  There is more information available on the topic on this site.

What is involved in Seller Financing?

Seller financing usually involves offering the buyer a first or second mortgage.  A second position mortgage usually involves a higher interest rate because it is riskier than a first.  Successful seller financing involve three main challenges:

1. Finding qualified buyers
2. Having the correct documents to create the agreement
3. Designing  provisions in the agreement that protect the seller against loss if the buyer defaults

It is true that some buyers do default on their commitment to pay and it may be necessary to foreclose on the property.  This can be a difficult and expensive process.  This means that seller financing has some risks.  It is necessary to have a qualified attorney review any documents relating to seller financing before they are used.  These risks can keep sellers from offering financing on their properties.

The benefits for sellers and buyers can outweigh the potential risks.  In the current selling climate with pressure to lower prices in order to move properties and the increasing difficulty of obtaining sufficient credit for buyers it may be time to take a closer look at seller financing as a way of making the sale.

Advertisement