Updated: 4/16/2020 - COVID 19 Crisis
How about we told you that you could establish YOUR OWN terms for financing your next real estate investment purchase? With seller financing, you have the chance to approach a deal in non-conventional and creative ways. As an investor, you need to know about all the different options you have to finance your next real estate deal.
| What is Seller Financing?
Seller financing is exactly what you are thinking about: the seller provides the financing rather than a bank or private lender. Essentially, seller financing eliminates the need for a middleman (banks or private lenders) and allows both parties to negotiate more directly than a traditional loan. It gives the investor the opportunity to put clauses in place that are beneficial for the health of the investment; and, it grants the seller the opportunity to make a move that could save them money and secure future investments. Therefore, seller financing is a great tool for investing in your next rental property and create a win-win situation.
| You Will Need a Calculator
One of the clear advantages of a seller financing deal is FLEXIBILITY. This does not mean the transaction does not have to be as straight forward and thorough as a conventional or private loan. All the terms and requirements are set during the negotiation between buyer and seller. It can be as simple as plugging all the necessary information into a mortgage calculator.
Remember, you will need to do your research to come up with the numbers of the deal. Come up with the basics: purchase price, interest, and loan terms. After understanding your bottom line, protect it! Yes, you are in the negotiation to find a sweet spot for both sellers and buyers. Nevertheless, this does not mean you can't negotiate for your bottom line to look as positive as possible.
| Picking a Seller Financing Deal
When looking for a seller-financed deal, you will need to understand a few things.
Be sure that the seller owns the property outright. This way you can prevent encounters with clauses like the "Due on Sale Clause." This requires the full payment of the remaining balance owed on the mortgage of the property. Therefore, that will be the cash needed by the seller to close the transaction.
Understand the seller's MOTIVATIONS. Are they looking for fast cash? Are they looking for cash flow? You will need to have a solid conversation with the seller to dig these details out. This way you can negotiate terms that benefit them. For example, they may need you to place a downpayment that helps them place an offer and move/invest in their next home. So, getting to know their next move can help you make an attractive offer they just can't refuse.
Seller financed deals could come with HIGHER INTEREST RATES due to the nature of the deal. They will need security they can still pay the interests owed on the property, and perceive gains from the length of the contract. For instance, if an owner is paying a 5% interest, they will most likely negotiate above that interest rate to cover all expenses related to still holding the title of the property. This is another reason why you should pick mostly deals where the seller owns the asset.
| Benefits for the Investor or Buyer
The benefits of a seller-financed deal are quite clear for investors:
You can get discounted deals. This comes as a result that you are saving the seller plenty of costs that are involved with selling a property. Costs like taxes, closing costs, realtor commissions, etc are clear savings a seller could perceive.
You could invest in more properties due to the lower costs of acquiring these assets.
These types of loans won't go on your credit report because they are private deals. Remember, the seller is acting as the bank.
The down payments could be smaller or non-existent depending on your negotiations.
Speedy closings can be negotiated in terms of the contracts according to how quickly everything can be executed.
You can be creative with the terms of the contract since it is a straight forward negotiation with the seller. No middleman is required, so it is a more person-to-person type of transaction.
| Benefits for the Seller
You won't be the only one perceiving benefits from these transactions. For sellers, financing a deal can relieve them from many burdens.
If they have been in the open market for a while, offering seller financing could make the property more attractive.
Remember the higher interest rates? Well, these can create incremental cash flow for the seller, which secures a solid passive income stream. This can secure their future and a monthly cash flow anyone would be lured by.
When executing these types of deals, sellers receive many tax breaks and they can spread the tax payments on the property.
As the lender, the seller does not have to worry about the buyer's mortgage company requiring expensive repairs or upgrades prior to the sale of the property. They can sell the property AS-IS.
The most important and crucial factor is: the seller retains the title of the property. This factor can be seen from different angles. The seller retains the power during the lending period; but, they are also responsible for their current loan even if you default. So, for sellers, it is important to screen buyers carefully and qualify them for these types of deals.
| Steps to Execute a Seller-Financed Deal
1) Check with Real Estate Attorney and Financial Advisor
Both parties need to understand the financial and legal implications of entering this type of deal. On the financial side, the seller needs to know they can cover all costs of the sale, and maybe the moving. Then, the buyer needs to have the capital and generate cash flow to cover initial expenses and monthly dues. Additionally, state law needs to be understood to place all needed clauses into the terms and conditions of the private mortgage.
2) Screen the buyer
The seller needs to do a thorough screening of the buyer. They need to know details like: is it a family or an investor buying the home? Is the buyer in good standing in taxes? How about a credit score? What is the available cash on hand? It is advisable that the buyer provides references the seller can call and investigate further in detail.
3) Loan Terms
The loan terms need to be placed in the contract. To start off, the deal doesn't just involve an empty shell. Things like appliances and fixtures need to be clarified in the contract. Then, all payments due need to be disclosed like HOA and taxes. This is where some risks are incurred from both sides. Next, interest rates, finances, and loan lengths need to be adjusted and negotiated. Finally, non-refundable earnest money needs to be established.
4) Escrow
When the seller received the escrow, this money must be saved! This can be the cushion the seller needs if in the future the buyer defaults from the deal; or, simply there need to be any repairs in the home (as negotiated previously). Most importantly, this earnest money must be quickly cashed out to make sure the transaction is successful. You don't want to move forward with a contract without the earnest money secured
These types of deals can result in great gains in your real estate portfolio, and become a win-win situation for both parties. For instance, you could help tired landlords, relieve debt, and take distressed or burdened properties from frustrated owners.
Today, during the COVID-19 crisis, we will see a significant decline in the market. This will be a great opportunity for investors looking for opportunities to secure new portfolio properties. As a matter of fact, banks are requiring quite a bit more proof from investors that they can generate cash flow to retain the property. If you are trying to finance your next deal in this market, be prepared to fill out long forms and wait for outrageous amounts of time to be approved. Therefore, something like seller financing can help you bridge the gap between you and your next investment. Use it wisely!
These are not conclusive benefits of seller financing, there are many factors in each transaction. So, you should not consider it for every deal you close moving forward. Nevertheless, as an investor, you should understand the opportunities that arise from non-conventional financing.
Want to learn about new investment opportunities and how to improve your portfolio? Schedule your complimentary investment consultation with our team.