The Pros and Cons of Owner Financing

The Pros and Cons of Owner Financing

pros and cons of owner financing blog

A home is the largest purchase that most people will ever make. Unfortunately, it is not always easy for borrowers to get approval for a mortgage.

When this occurs, owner financing can be a viable and accessible option. Not all sellers are willing and able to provide owner financing, but it is always worth asking when a mortgage is out of reach.

Owner financing also can simplify the closing process, but that doesn’t necessarily mean that these agreements aren’t complex. A written agreement is needed to ensure that both parties fully understand the terms before proceeding.

Let’s take a closer look at what owner financing is and the pros and cons of entering into such an agreement.

Owner Financing: The Basics

Sometimes called seller financing, this alternative to a traditional mortgage makes it possible for a buyer to purchase a home when conventional financing options fall through. The current homeowner, the seller in the transaction, finances the home purchase. Frequently, the interest rate on owner financing is higher than that charged according to current mortgage rates. There may be a balloon payment due after a period of five or more years.

It is possible that owner financing can streamline the process of buying and selling property because there is no firm requirement for an inspection, appraisal or lender.

How Does Owner Financing Work?

Some elements of the owner financing process are similar to those that are required with a traditional mortgage. For instance, the buyer usually is asked to make a down payment and then is expected to pay off the balance over time.

The seller typically will charge a higher interest rate than would be charged by a mortgage company, and there may be a requirement to repay or refinance the balance to a traditional mortgage in a time period that is as short as five years.

Despite the potential for a higher interest rate and the need to refinance in a relatively short span of time, owner financing remains a simplified and quicker method of buying a home as long as the seller is willing to take the risk.

Buyers sometimes are interested in owner financing because no credit check or background check is involved. Consequently, it can help people to become homeowners even if a regular bank or mortgage company would not approve them.

Moreover, banks and mortgage companies have requirements for appraisals and inspections, but with owner financing these steps can be omitted unless the buyer requests them.

The buyer and seller must agree to the payment terms, and the buyer begins making monthly payments according to those terms. These can vary widely, with lump sum payments potentially being due and the buyer being required to obtain a traditional mortgage in the future being just two examples of terms that the seller might request.

It’s worth noting that unlike with a traditional mortgage, insurance and property tax payments likely will not be rolled into the monthly house payment. This means that the buyer must take responsibility for direct payment of these expenses.

Is Owner Financing a Good Idea?

Depending upon your unique situation, owner financing can be the ideal solution. Of course, there are pros and cons for both parties that are involved in the transaction.

Let’s take a look at these so that you can make a more informed decision.

Pros for Buyers

  • Can obtain financing for which they do not otherwise qualify;
  • Makes it possible to purchase homes that are historic, fixer-uppers or otherwise might not qualify for traditional mortgages;
  • Provides a quicker closing by minimizing the due diligence period;
  • Potentially does away with inspection costs, appraisal costs and bank fees; and
  • No down payment minimums such as those that are required with government-backed loans.

Cons for Buyers

  • Interest rates tend to be higher than on traditional mortgages;
  • A sizable balloon payment may be required at the end of the term;
  • The seller may not be willing to provide financing; and
  • Some sellers may have a mortgage with a due-on-sale clause that necessitates paying off the mortgage upon sale, which means that owner financing is not an option.

Pros for Sellers

  • Property can be sold as is without worrying about the appraisal requirements of a lender;
  • May be a tremendous investment opportunity that provides an enhanced return compared with traditional investments;
  • Reduces due diligence requirements, making the selling process shorter and easier;
  • Retaining the ability to sell the property’s promissory note to an investor; and
  • Allowing the seller to keep the property’s title and any money paid toward the mortgage should the buyer default.

Cons for Sellers

  • Risk of the buyer not making payments, causing the potential for default and foreclosure;
  • If the buyer defaults, the seller will be responsible for all necessary repairs and other problems caused by neglected maintenance issues; and
  • Federal laws sometimes become involved in owner financing, placing restrictions on the transaction such as limiting balloon payments or requiring the involvement of a mortgage loan originator.

Is Owner Financing Safe?

Although there is some risk involved in any real estate transaction, the risks are not necessarily greater with owner financing. That is especially true if the seller and buyer proceed with caution and clearly spell out the financing terms in a written agreement. Ideally, both parties will be represented by attorneys who will work together to draft a mutually acceptable contract.

While things like appraisal and inspection are not required in an owner financed transaction, it may be wise for the buyer to proceed with these steps to ensure that the home is not priced too high. Inspection and appraisal also are critical for knowing more about the condition of the home that is being purchased. These steps can let the buyer plan ahead for future repairs and maintenance.

Similarly, although no credit check is required, it may make sense for the seller to run a credit check on the buyer before entering into an agreement. Such precautions can reduce the risks involved with owner financing while also improving the odds that the buyer will make payments on time.

Get in Touch with Florida’s Choice Realty

Every day, we help people find their dream homes and sell their current homes. Florida’s Choice Realty also may be able to recommend mortgage lenders who can help buyers explore creative financial solutions that can help them become homeowners.

We’ve also helped to smooth the way for clients who were interested in owner financing. No matter what your circumstances, you can trust Florida’s Choice Realty to help you at every step of the way toward becoming a homeowner.

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Author: Dawna Cantway

Dawna Cantway has worked in the housing market for over 20 years. Her experience has included drafting house plans for builders, working in the field on remodeling and renovation jobs with her husband, and advising interior design for homes and businesses. These varied skills come together to make a real estate agent with an ability to guide you beyond the typical.

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