Top Ten Benefits to Owner Financing
After a long period of low mortgage interest rates, the loan market has begun to tighten. As recently as 2012 mortgage rates bottomed out at an all-time low of 3.35%. Even as recently as fourth quarter 2015, rates were still below 4%. Those low numbers are about to change according to the Mortgage Bankers Association (MBA). Their forecast is for rates to be at 5% by the end of 2016. What does that mean for home buyers?
When mortgage rates rise, loans become more difficult to obtain. Lending institutions aren’t so willing to loan to just anyone. That means borrowers with sketchy credit histories will need to be creative when they’re trying to finance a home. As a result, they’re left with few viable options for buying a home. Not only does that hurt buyers, it hurts sellers.
Higher mortgage rates can hit sellers just as hard as marginal borrowers. With fewer home loans available, homes become more difficult to sell. Home sellers will need creativity, just like borrowers, if they’re going to have more than a slim chance to sell.
Is there a solution available for higher-risk borrowers looking to purchase a house? What options do home sellers have in a tightening market? It appears an answer is at hand. Owner financed home selling is that answer.
Since owner financed home sales are still somewhat of an oddity, not much is known beyond the realms of mortgage and real estate financing. We’ve put together a list of the top ten benefits for sellers and buyers who engage in an owner financed home sale.
The top 5 benefits for the seller:
1 – Owner financing can be a selling tool
Owners of homes have fewer potential buyers when interest rates go up. As a result, in additon to fewer buyers, those potential buyers might have a more difficult time obtaining a home loan. Someone looking for a house to buy will be inclined to take a closer look at a house listed as an “owner financing” opportunity. The listing can also be a way for a buyer to know that the seller is more willing to work out a more creative type of financing than the standard bank or lender loan.
2 – An owner can list a higher price for the house
For the owner/financer, being the “finance company” in this situation means freedom to set their own price. Not having to worry about a conventional lending institution appraising the property for a lower amount than market value puts the owner in a unique situation. Of course, the owner should be careful about pricing their property too far above local market value, but they still have the flexibility to make more from the deal than from a conventional sale. Because of the nature of the deal, a buyer is probably more inclined to accept a higher selling price, knowing the alternatives.
3 – A shorter loan term means faster money
Many times an owner financed loan will be structured for a short (5 year) term. The thought is that the buyer will have made improvements to their credit score in that span and will be able to obtain a conventional loan. The 5 year loan is structured with a balloon payment at the end, so the full amount can be available much sooner than with a 30 year loan. The owner also has the option of selling the loan after closing if they need the cash promptly.
4 – Owner financing can be an interest earning investment.
When a homeowner sells their house through conventional means, the lender ends up making money from the interest on the loan. If the seller stays the course and receives monthly payments at a higher interest rate than they might have gotten by investing a lump sum, the owner’s profit increases. Depending on the interest rate agreed upon between buyer and seller in an owner financed deal, the seller earns a larger profit because the interest goes into their pocket, not the bank’s.
5 – Faster closing time
By not using a bank or lending institution for the loan, the deal can be closed much sooner. For both seller and buyer, the seller financed process greatly reduces many facets of the loan process. All the steps inherent with a conventional loan, loan qualifying, appraisals, and surveys, are not a part of owner financing. The process will still require an attorney (experienced in real estate) to legally draw up the papers and handle other essential legal issues.
If the property in question is in a run down condition or needs some repair, the owner and buyer may agree to forgo pre-sale repairs in lieu of a down payment. Instead of having to wait for repairs to be completed, the buyer, if they wish, can complete repairs while residing in the property.
Obviously the seller stands to benefit from an owner financed home sale. In what ways can a buyer benefit?
1 – A marginal credit score or history cease to be an issue
Many people have credit histories that are less than sterling. Job loss, medical issues, divorce, all can be a detriment to one’s credit score. When interest rates begin to rise, lenders become less likely to make loans to those who might be considered a marginal credit risk. Through owner financing, it becomes possible for a family who might not otherwise have a shot at home ownership to own a home of their own.
Ultimately, much of that decision falls on the shoulders of the seller. However, compared with the more stringent requirements of banks and lending institutions, marginal credit risk buyers have a greater opportunity for home ownership with an owner financed sale.
2 – Ownership of a more expensive home
Through conventional means, even a good credit risk can be limited by the amount of money the lender will consider for a home loan. A marginal credit risk may not have a chance at a bank loan at all. Again, because the loan is made through the seller, this scenario changes significantly. Depending on how badly the seller needs to turn a profit from their property, owner financing can work in the buyer’s favor.
3 – Lower closing costs
An owner financed home sale removes many of the steps inherent with a bank or lender. Because there is much less paperwork, the owner will normally handle that part since the cost for those services will be next to nothing. As mentioned above, especially for the buyer, it remains extremely important to have an attorney with real estate experience handle the paperwork.
4 – Lack of loan charges
With a conventional lender, a plethora of fees are added to a home loan. Added loan costs such as points, origination fees, underwriting charges, appraisal, credit reports, title insurance, can add thousands to the cost of a home loan.
5 – Down payment amounts can be lowered
Because a conventional loan goes through a government regulated lender, banks are mandated to require a certain amount for the down payment. The lack of bank or conventional lender means no mandated down payment. The seller and buyer can agree on a lower down payment, or forgo it altogether, if a property is in need of repair.
Seller and buyer caveats
As with any purchase of this magnitude, both parties should take steps to insure the legality and reliability of the other. Owners should be as detailed as possible in their investigation of the buyer.
Potential buyers should be vetted as thoroughly as possible through loan applications, background checks, and personal references. Even as a homeowner seeks to sell a home they no longer want, or need, they still want, or need, to get a return on their investment. There is always the possibility of a shady or irresponsible buyer leaving the seller pursuing legal action to regain lost loan money.
Buyers in an owner financed loan have due diligence here as well. Most importantly, they should take steps to make sure that there are no outstanding mortgages or liens against the property. Even though they’re not required to pass a conventional credit check, the potential buyer must be able to show a solid, stable credit history, or that steps have been taken to repair previous credit issues. It is also a good idea to investigate the area around the property. The possibility exists that the owner, because of a declining neighborhood, may be using owner financing to recoup an investment that they can’t get otherwise.
Owner financed home sales can be an excellent way for two parties to help each other out of a tough spot. Because of the flexibility allowed by circumventing the usual bank or conventional lender mandates, seller and buyer can tailor a deal that benefits each of their interests. Of course there are pitfalls, for both parties, but if care and diligence is taken during the process, the benefits of an owner financed home sale far outweigh the negatives.