When Seller Financing just makes sense–
Financially “challenged” real estate investors often have much to overcome when trying to put together “low- or no-money-down” real estate deals. For sellers, offering financing may stimulate buyer interest in property otherwise slow to sell.
If documented appropriately and when financing terms are “reasonable”, seller funding can be both more effective and less pricey than traditional institutional lender financing.
Benefits of Seller Financing
Sellers are frequently less demanding in assessing or “qualifying” borrower credit worthiness; seldom require “points” and other fees or compensation for “processing”, etc.; and might prove more flexible in fixing interest rates. In return, sellers offering funding will expect–and usually get–a higher price for their home.
PLEASE NOTE: The following remarks, while believed to be accurate, are intended for instructional purposes only and ought to not be taken as financial investment or legal advice. Those seeking such financial or legal suggestions are strongly encouraged to secure such assistance directly from qualified experts of their own choosing.
Two types of Seller Financing
There are normally two sensible choices for documenting seller financing of real estate: the “contract sale” (sometimes termed “land contract” or “purchasing on contract”) or the more standard note and mortgage.
The Contract Sale
Although utilized less often, the contract sale provides advantages of 1) ease in paperwork (all elements of the deal, including price and installment terms are included in a single document); and 2) the seller’s ability to reclaim the asset in event of buyer default without resorting to lengthy foreclosure proceedings.
That said, there are restrictions on the seller’s right to “call the note” and reclaim the property without foreclosure that will vary from state to state. These restrictions must be understood by all concerned.
Purchasers will appreciate the likelihood of lower down payment requirements and reduced credit criteria needed to satisfy the seller–benefits which may prove vital to making the deal work at all.
The Traditional “Note-and-Mortgage”
For many buyers and sellers, the note-and-mortgage might be preferred to the contract sale. While generally more costly to document, this option is at least the better understood of the two financing options. Unlike the Contract Sale where title is retained by the seller up until all terms of the agreement are satisfied, in this case there is an official conveyance of title to the home to the purchaser at a “closing” (subject to the note and mortgage to be held by the seller).
The buyer then, regardless of credit issues, down payment, rate of interest or other terms (“affordable” or not), is nevertheless fully “in title” as owner of the property. Any enhancements to or further investment in the property are indisputably owned by the buyer (new owner of record).
Significantly, the building may only be lost or go back to the seller by foreclosure, a typically pricey and lengthy procedure offering defaulting, “distressed” owners important protections and opportunities for redemption.
Importance of proper documents
In order for either of these “seller financing” techniques to work in the best interests of all parties, it is EXTREMELY IMPORTANT that fundamental property sale or transfer procedures be observed. From a simple business perspective (for reasons I won’t enter into now) it is necessary that the documents used be officially recorded; and, secondly, that title reports be secured and evaluated and, where appropriate, title insurance coverage secured.
Both seller and purchaser, or mortgagor and mortgagee as the case may be, ought to get documentary evidence of timely payment of property tax and property insurance coverage (no matter with whom that responsibility lies). Both parties have investments to protect.
Finally, in documenting the initial offer-counter-offer negotiations, there are very important agreement provisions, and editing of contract language, that should at minimum be examined by legal counsel prior to final contract execution or signature.
Absent prior legal review, it is essential to understand whether parties to real estate contracts are accorded any statutory Rights to Attorney Review or Modification in the state or jurisdiction governing the proposed deal. Language in the contract should reflect such right or rights and specify the number of days allowed for this review. Notably, it may be the case that any modifications tendered under such provisions constitute a modified or “counter” offer, thereby canceling or rescinding the original or existing agreement– one more reason to have legal counsel included at the earliest possible point.
When making use of a form agreement, points to consider include: It may be sufficient to simply strike out language, or the paragraph(s), concerning the standard financing contingency “purchaser will secure financing or a loan in the amount of …”, and so on, while preserving the language–edited as necessary–stipulating the seller’s right to secure or provide financing. More clarification or affirmations, for example “seller agrees to provide …”, might well be included for initialing in margins as needed.
While repeating the caution there are many legal concerns and technicalities involved warranting legal counsel, the use of Seller Financing can be an exceptional way to both buy and sell real property. Difficult financing environments, credit constraints, or simply the need for short-term “bridge” financing, can be overcome with properly conceived and executed seller financing. #
— Philip Elmes