How does seller financing work?
With traditional third-party financing, a lending institution makes a loan to the buyer for the purchase price of a home and takes back a security interest in the same home. The security interest comes in the form of a mortgage or deed of trust, which allows the lender to foreclose on the home to recover its loan money in the event of a default. The buyer gives the seller the entire purchase price and the seller leaves the picture. The buyer then must make mortgage payments to the lender until the loan is paid off and the buyer owns the house free and clear.
Seller-financing works a bit differently. In this situation, the seller does not receive a lump sum of cash and remains involved in a financial relationship with the buyer until the entire purchase price is paid. With seller financing, the seller agrees to transfer title to the house in exchange for a note and a security interest in the house. The note is paid off just like a mortgage, but it is paid to the seller instead of a bank. Also, just like with traditional financing, the seller's security interest gives him the power to foreclose on the house in the event of default. Often, when a seller finances the purchase of a home, the loan note provides for a balloon payment after a period of years. A balloon payment is basically a lump sum payment of the amount still owed to the seller. When the balloon payment is due, the buyer usually pays it or refinances with a traditional third party lender who pays it.
When people think of seller financing they tend to think of a traditional financing structure but using the seller instead of a third-party lender. However, purchasing a house under a lease to own contract is also a form of seller financing. Lease to own works just as it sounds. Rather than buy the house right off the bat, the buyer rents the home for a period of time or until some other purchase trigger occurs. At that point, the buyer has the option to purchase home. If she chooses to do so, then all the rent payments she has made count towards the purchase price of the house. If not, she walks away from the house, just as if she were a renter. Typically, the buyer has first right of refusal in the event another person offers to purchase the house.
With seller financing, the seller has to wait a period of years to get the full purchase price of the house and bears the risk of default in the meanwhile. Additionally, the payments for seller financing are usually lower than those on a traditional mortgage. So, why would a seller be interested in a deal like this? The same reason a bank would be: interest. Charging interest allows the seller to get more than his asking price or make up for a very low purchase price through interest. In a seller's market, the seller gets to squeeze even more money out of the buyer; in a buyer's market, the seller gets to sell her house and possibly get close to her original asking price anyhow. Also, because of the balloon payment, the seller usually gets out quickly - after five to 10 years, so she really isn't bearing the same risk as a third-party lender.
Seller financing (also known as a private party mortgage), is when instead of receiving a lump sum of cash at the time of sale, the seller receives principal and interest payments directly from the buyer. allowing the buyer to pay over time.
Frequently seller financing ends with a balloon payment (paying off the balance) after a specified amount of time. The balloon payment is frequently the buyer re-financing through a 3rd party.
Some of the advantages:
Your closing costs can be much lower.
Because you get the money overtime the sale has less affect on your taxable income.
They are flexible because the buyer and the seller get to agree on terms.
As a seller, you can have a monthly income stream, in most situations earning interest.
You can defer your Capitol Gains and pay over time as the property is paid off.
Most note servicing companies, like NoteWorld, will answer a lot of questions if you call or use their contact forms