Owner financing: pros and cons of creative lending

Ginger Dean

May 10, 2013

By: Ginger Dean, Home Finance Specialist

In: Finance and Legal

In today's tight credit market, banks are often skittish about lending money to even the cream of the crop as it relates to those with top notch credit profiles. As you can imagine, those with less than stellar credit profiles have an even harder time securing a bank loan to buy a home. Consequently, alternative and creative lending strategies have surfaced which allow both sellers and buyers to be more flexible in their dealings with financing retail, wholesale and investment properties.

One such strategy is owner financing. Owner financing essentially allows the seller to directly finance the property to the buyer. The seller holds the mortgage note personally, while the buyer takes responsibility for paying the monthly obligation to the seller. There are no banks or other middle men involved. The seller and buyer orchestrate the transaction from start to finish.

Still, while this strategy offers much in the way of flexibility, there are inherent risks, which both sides should be mindful of as they move forward.

Advantages of owner financing

  • Seller can earn significant interest via owner financing, better than any current offer on a savings account
  • Buyer avoids a formal mortgage application process -- ultimately, a simpler path towards home ownership
  • Opens up options for real estate investing and home ownership that would otherwise be unavailable for both the homeowner and buyer
  • No lengthy mortgage application process that typically can take weeks to conclude
  • Faster closing due to both parties, seller and buyer, controlling the process

Downside of owner financing

  • Seller takes a risk on the buyer by financing the property themselves. They assume all risks around the buyer defaulting on the loan as opposed to allowing a bank to assume the risk
  • Buyers pay a higher interest rate due to their lack of credit worthiness and the inherent risks the seller is taking by financing them
  • Seller loses out on equity upfront in exchange for monthly cash flow payments

As you can see, there are several reasons why both sellers and buyers would want to utilize seller financing. The current housing market colors the lending climate that allows this kind of financing to flourish. The process is an overall smooth and expedient one that removes the hassles of lengthy, tedious mortgage paperwork and last minute underwriting surprises. Still, it does present some inherent risks that should be considered and accounted for before signing any agreements.

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