Seller financing with Sam

Email|Link|Comments (2) Posted by Rona Fischman April 20, 2009 03:25 PM

Sam Schneiderman, Broker-owner of Greater Boston Home Team continues his Monday series:

As I learned more about real estate and investing, I learned that sometimes a seller will participate in financing the sale of a property if they have sufficient equity. Some will finance the entire sale after the buyer pays an acceptable deposit. Some will give the buyer a second mortgage with favorable terms. When sellers offer financing, a savvy seller or listing broker can use seller financing as a negotiating tool to get a higher price.
Seller financing is most commonly used with investment property and in sales between family members. It can be used in any transaction, provided that it is disclosed to the lender up front. Some banks will provide financing on a short sale or a foreclosed property that they are selling, while others refuse to finance that property ever again.

In a low interest rate environment, some sellers find it attractive to collect a higher rate of interest on a second mortgage than they could collect with a CD or bank account. In a high interest rate environment, some sellers offer low rate financing to make their properties more competitive and attract more buyers. When financing can be tough to get or a property needs significant work before it can be occupied or rented, long or short-term seller financing can keep a deal together.

Personally, I have used seller financing to purchase investment properties with little or no down payment. Since most lenders require PMI (Private Mortgage Insurance) for financing above 80% of the purchase price, I negotiated seller financing to make up the difference between my down payment and the amount needed to avoid PMI or meet loan program requirements. I favor seller financing with deferred payments that don’t start for a year or more.

Seller financing was mostly abandoned during the last real estate cycle and has not been taught much over the past decade. With a down payment sufficient to comfort a seller from potentially declining values, it might be a useful tool in certain situations in today’s market or in the next real estate cycle.

Perspective:
Always tell your lender what you are doing and provide documentation. Mortgage programs change daily and you need to conform to the latest guidelines to get financing. Lack of disclosure constitutes mortgage fraud, which is usually a federal crime.

Put all of the details in your offer. In Massachusetts, real estate transactions must be in writing and signed by both parties to be enforceable.

Get legal advice if you or your agent is not knowledgeable about seller financing.

Have you ever bought or sold using seller financing?

Do you see a use or need for seller financing in the current market or in the future?

Can you see yourself using seller financing?

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2 comments so far...

Whether they realize it or not, sellers who take back paper are subprime lenders. This is not always a bad thing. Subprime lending can be very profitable if conditions are right. But it can also be a disaster if conditions are bad. That is why I would not recommend getting into this business until the market collapse has run its course and prices bottom.

In the current market-- characterized by rapidly falling prices-- sellers who take back paper are asking for trouble. There will be at least another 30% fall in prices, and current interest rates are ridiculously low. It's a very bad time to invest in junior mortgages, especially since your are last in line to collect if the borrower defaults. There's a reason these loans are trading at 30-50 cents on the dollar in the market-- they're very risky and you stand a very good chance of getting burned. I personally don't think the yields adequately justify the risk.

But once prices stabilize, it will be a different story. As a result of carnage, we can expect plenty of potential buyers who fit the classic and potentially very profitable subprime borrower profile: 1) very little equity, 2) damaged credit, 3) solid/stable income. These people will be excellent candidates for junior loans. The sellers and hard money lenders who provide financing for them will do very well. Interest rates will likely be higher (this is good for people who hold paper) and the risk of loss from default will decrease since prices will be stable.

So I say seller financing is a very good thing. But I wouldn't suggest it now unless you REALLY know what you're doing.

Posted by Lance Stapleton April 20, 09 05:13 PM

Lance, you have made some good points. No doubt that a seller second could be risky in still declining markets, although I am not sure that I would classify a seller second mortgage as "subprime" if the borrower and property are strong. If a seller needed to sell, it might be better to take the risk of holding a second mortgage to get a better price than just lowering the asking price. At least there would be a chance of collecting some money later. A default on a seller second mortgage could still be reported to credit bureaus and I believe it would show up in public record as well, so the buyer does have incentive to pay. Assuming that the buyer stays in the property for a while, when the market turns upward again the seller's second mortgage also becomes more collectable.
Your points about how seller's seconds might be useful in the future are a good prediction of how things might work out.
Today, I was presented with the opportunity to structure a condo purchase for a buyer with a 10% downpayment and I suggested a 10% seller second to avoid PMI. When I ran it by a lender, I was told that it might not be acceptable under new mortgage underwriting guidelines. (Do any lenders that are reading this have any comments?)
It would be good for us to know what area(s) you work in that have "rapidly falling values".

prices".

Posted by Sam Schneiderman April 21, 09 10:13 PM