Seller financing - recommended in general or not?

Question

I have done two land contracts in the past before the whole Dodd-Frank legislation came up.  One has worked out well and the other did not.

I still feel that there are opportunities to provide win-win scenarios where I make money and the buyer gets an affordable home.

However, considering the Dodd-Frank legislation, is seller/owner financing recommended anymore, if you're only doing 1 or 2 per year?

Or is that something that people doing so few transactions should stay away from?

Here's an example I'm considering:

Duplex 2/1 lower, 2/1 upper.  Area rents at $600 lower, $550 upper.

FMV = $40k - $45k based on comparable recent sales

My thought would be to put the sale price at $40k, with $2,000 down and payment of $600 a month over 10 years at 10%.  The payment would include an "escrow" for property taxes (to insure they would get paid).  The property would be rehabbed before the buyer bought it.  Repairs that come  up after the buyer purchased it would be on them.

Am I thinking correctly in how to structure an owner finance like this? Or are my numbers off?

When someone seller finances, do they generally use a servicer or be the servicer themselves?

Bill Gulley · Answer

Dawn, you just caught me and saw the title getting ready to leave.

Use a note and deed of trust, 10% is rather high, Dodd Frank is 6% over prime of about 3.5, I'd keep it at 9%. If they qualify at a 10 year amortization, fine, no balloons until more than half the amortized principal has been paid. Follow the non-judicial foreclosure laws and in fact, to avoid servicing and collection requirements which may not be exempted, use a loan servicer! 4K down would be better, 2k is 5%, you can have issues with that!

I'm a big fan of seller financing, when done properly it really can be a win-win, and that in my eyes means it is to be advantage, equally between both parties with both intending on success.

That doesn't include contract for deeds, they use to be a favorite, but they have always had issues and few were ever constructed well enough to address all the issues, insurance assignments, servicing, escrows, due on sale, payoffs being correct, all kinds of issues, but now with deeds being in question, circumventing foreclosure laws, these should be avoided, IMO.

Best done between investors, commercial transactions and business sales.

Seller financing to owner occupied types, consumer loans or installments is highly regulated, while they require a RMLO, the down side is that RMLOs are generally not qualified to underwrite as they may have no experience other than secondary market loans which is different from SF deals where you underwrite into the future rather than at a point in time as of today. It really takes a much broader understanding of financial matters, credit issues, lending rules of conventional loans as that is the target to shoot for.

Requiring a RMLO has opened a new market for originations and I see many taking advantage of originating, there is more income being made from a SF deal than conventional financing with much less risk from a funding standpoint, the loans are funded with equity, not cash. Fees charged are out of sight IMO, some ripping off borrowers/lenders. Anyway, it's hard to find qualified RMLOs or even those who are willing to do the job.

While you may have exemptions, still need to be very careful as while you may be exempt, there are predatory matter you are not exempt from and the bar set to judge what should be done is set by Dodd-Frank even if it may not be applied directly, it still becomes a standard of prudent lending, fairness, ability to pay and equity matters.

I'd almost suggest investors stay away from consumer lending unless they really have good borrowers and those with financial experience involved.

But, yes, SF deals can be done and can be a great way to finance lower priced properties or distressed properties, but in keeping within the requirements. Good luck :)

Bill Gulley · Answer

@Dawn Anastasi

I understand your thought as to making your deal more marketable, but that is dangerous logic. You really need enough down to foreclose to break even in the best conditions in the event of default. Then there is damage, wear and tear, deferred maintenance, taxes and insurance to pick up if they walk away......and they do walk away!

The down payment needs to be high enough to make them think 3 or 4 times before they walk away.

Walk offs are worse than missing a few payments and going to foreclosure. You might begin the FC process after they walk, they can be gone for 30 days before you can even begin the process and while that clock is ticking, you can't do much with the place except to safeguard it until you obtain title. Good luck getting the place insured if there is a lapse of coverage as lender's coverage is more expensive and hard for an individual lender to obtain.

The down payment is pretty much the foundation of risk management and prudent lending.

When a lender doesn't act prudently that reflects on their position and it may lean toward predatory rather than helping a borrower, no or very little down is a bit like "sucking" someone into the deal, making it too easy is like a lure that baits them. This is an issue for non-profits providing housing to marginal buyers, it's why Habitat For Humanity requires sweat equity to be earned, why others do lease periods with savings required over a "testing" period. Not everyone is suited for homeownership and they all will claim that they will perform as agreed, they all say they want to own, but few succeed who didn't have skin in the game. Remember, these borrowers don't qualify for conventional financing such as an FHA or VA, if they could they wouldn't take a high rate loan.

Another aspect, you don't want to take all their money either, they must have funds in reserve as any car repair, or fridge going out or hospital trip will put them in the hole and the pattern of default begins.

Kinda hate to say it this way, but many low end buyer/borrowers are almost childlike, they beg for the deal, they make poor decisions accepting questionable properties, they will promise to be good and they will have good intentions. That can all change when they don't feel pain in the wallet if they walk away, just like getting spanked.

Income alone is not all of the ability to pay, there is also the motivation to pay.

You're correct, it's 6.5% not 6% and I'm not sure where prime will be but you need to check at settlement.

I agree that a higher rate may be justified with less down, but that is not simply an arbitrary number based on profit, it goes to the acceptable risks taken.  :)

Account Closed · Answer

a higher down payment and a decent credit worthy applicant with good history of employment makes for a marketable note otherwise lease to own is a better way to go

Account Closed · Answer

'Duplex 2/1 lower, 2/1 upper.  Area rents at $600 lower, $550 upper.

FMV = $40k - $45k based on comparable recent sales

My  thought would be to put the sale price at $40k, with $2,000 down and  payment of $600 a month over 10 years at 10%.  The payment would include  an "escrow" for property taxes (to insure they would get paid).  The  property would be rehabbed before the buyer bought it.  Repairs that  come up after the buyer purchased it would be on them.'

----

The downpayment, in my experience where I am, is too low. If the house is going to be fully rehabbed, you should have 5-10k down, based upon how we do things here.

Your monthly payment and final price for the end buyer seem solid if based upon proper comps. I escrow mine as well.

Most investors I deal with here only do 1-2 of these per year, so no RMLO is needed. You may want to consult with one or even use one though to make sure you're in full compliance with Dodd Frank re qualifiying the buyer.

Let us know how this works out. I want to learn about other people doing this in other markets. Thanks and best of luck.I think you might like the idea of not being a landlord anymore. I certainly enjoy it.

Lyandrea Russell · Answer

@Dawn Anastasi  First, I want to say hello and let you know how great it is that you've been able to turn the terrible experience you had with your cousin and her husband (I saw your video with Lisa Phillips) into so much success. I am truly happy for you.

I have no personal experience with seller financing but I do agree with Bill regarding the down payment. Although a higher down payment doesn't mean a buyer won't default, it would offer you a larger cushion if they do. Seems like a lot of risk is involved and you would have to decide what number works best for you in order to help mitigate those risks. It is nice that you are trying to make it easier for someone to get into the property, but you would be taking on more risk than the buyer so it would probably be best to make sure you're covered first. I'm sure there will still be enough room for the deal to be a "win" for the buyer as well.

Dawn Anastasi · Answer

I see that Prime is 3.25% which if you add the 6.5% over prime you get 9.75%.  So that would be the maximum that could be charged.  My thought is to have a lower down-payment, and a higher interest rate, to make it easier to get into a property.

A huge down payment does not automatically mean that someone's going to follow through. My last one had a down payment of $20k and they defaulted.

I don't like the idea of balloons; it sets up an artificial date that a huge amount has to be called due and payable and the person may not be in a financial position to pay it off by then.

If the person was able to refinance at some point in the future, that would be great for them.  I assume you could let someone refinance at any point in time.

Fred Brauneck · Answer

Great conversations guys.   i have been out of touch and didn't know about Dodd-Frank.  That messes with my plans to get back into using owner financing as a deal maker.

Jeff Rabinowitz · Answer

Seller financing is still viable but, as Bill, states the potential penalties in D-F are severe and the potential risks to the lender are very difficult to guard against. Lending to owner-occupants is fraught with peril. That said, I came to terms on the sale of one of my rentals just last week (it is pending inspection) on which I am going to carry financing. My buyer is another investor who wishes to add to his portfolio. The deal benefits both of us and D-F will not be an issue because the buyer is not an owner-occupant.

Doug Pretorius · Answer

@Dawn Anastasi Obviously I can't comment on Dodd-Frank. But from a calculations standpoint, your numbers look fine. The most interest I've ever charged was 9% on a $79k purchase price with $8k down.

But for the last several years I've charged 6-6.5% to stay in line with the bank's posted rates. The reality is that most of the people I sell to wouldn't be able to get less than 8 or 9%, but I don't want them to look up rates on the bank's website and feel like they're getting ripped off.

Just keep in mind that I'm selling $300-$500k houses. So 2 or 3% spread for me is decent money.

Seller financing - recommended in general or not?

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