real estate

Will seller financing sell your home?

Can seller financing be the incentive you need to get your house sold?

In seller financing, the seller functions as a direct lender, with the buyer making monthly mortgage payments to the seller instead of a bank.

Buyers who accept seller financing usually cannot qualify for a traditional mortgage loan, often because they have a low credit score.

"For sellers, the biggest benefit is to increase the pool of potential buyers to include those who might not qualify for a loan," says Ardina Franssen, RealEstate.com agent for the Atlanta and Lake Lanier region in Georgia.

Because borrowers with this profile are considered riskier, sellers often can charge as much as 8 percent or 9 percent in interest, which is more than many other investments earn.

In addition, taxes are owed only on the amount received each year rather than on the entire sale price. This reduces any taxes that might be owed. Sellers often are able to negotiate a higher price for the home when they offer financing.

"Seller financing can be a good investment because sellers will often be able to sell at full price and will earn a high interest rate on their funds," Franssen says. "Both sides benefit because there are reduced closing costs when no lender is involved in the transaction."

Who qualifies?

Seller financing is easier to arrange when homeowners own their property without a mortgage. In 2008, about 32 percent of all American homeowners owned their homes free and clear, according to a U.S. Census American Community Survey.

Homeowners with a small mortgage may be able to pay off that mortgage with the down payment from a buyer or other funds in order to offer seller financing.

In most cases, seller financing covers the entire purchase other than the down payment because institutional lenders rarely approve financing for a partial loan, says Brandon Coppock, program director for Owner Finance Buyers in Dallas, a company that assists owners with seller financing.

"Most of the buyers we work with are using seller financing as bridge financing for a few years until they can qualify for a refinance," Coppock says. "In many cases, the buyers have had a short sale or some other singular event that damaged their credit rather than a pattern of not paying bills."

Most sellers prefer a loan of three to five years, though some will agree to a 10-year loan.

At the end of the loan period, it is assumed the buyers will refinance with a traditional lender to cover the balloon payment owed to the seller. The higher interest rate sellers charge is an incentive to the buyer to refinance as soon as possible.

Protecting yourself

While seller financing can be a good option for some sellers, it's important to take steps to mitigate risk.

Sellers who use seller financing continue to hold the title until the loan is paid in full. Buyers must sign a promissory note that includes all the terms of the loan agreement.

Renee Mayhall, RealEstate.com vice president and general manager of its Georgia and Carolinas region, says sellers should reduce risk by working with a Realtor who can provide protections in a written contract and assist the seller by checking the buyer’s credit, income and assets, and by verifying employment.

"Often the buyers are self-employed or someone who has a single instance that has damaged their credit, or even international buyers who have not built up the right kind of credit in the U.S. to qualify for a traditional loan approval," Mayhall says.

Requiring a bigger down payment also can help protect sellers.

"Sellers usually require a down payment of at least 3 percent to 5 percent, but sometimes they can negotiate a bigger down payment to protect themselves," Mayhall says.

Lance Churchill, an attorney and president of Frontline Real Estate Education Group in Boise, Idaho, says all sellers also should come up with a contingency plan in case the buyers do not make their payments. Review state laws concerning foreclosure that could impact the seller's ability to evict nonpaying buyers, he says.

While not required, both sides can consult with an attorney to make sure they are protected by the contract.

"The seller takes on more risks in seller financing than the buyer, but they have the option of foreclosing on the buyer and taking the property back if necessary," Coppock says. "I always recommend that the sellers keep the down payment money as a cushion in case the buyers pay late or default on the loan."

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