CCreative Financing Question

[Toby Jurging]

I am looking at creative financing options for a seller.  They own the property free and clear.  I have proposed doing a seller finance for x terms.  As I look to provide the seller with multiple options, one that I am interested in knowing more about is SELLER CARRIES DOWNPAYMENT.

Does anyone have experience with type of deal?  Banks / Lenders, how do they deal with it?  Any advice is appreciated, thank you!

For context..

List Price: 109K

ARV: 135-45

Exit Strategy: SFH Rental at 1100-1250/month

[Derek Dombeck]

Since I don't know if it is their primary residence, I'm going to assume that it is for this example.

I would offer them $150,000 with $600 per month payments until paid in full instead of $109,000 at 5% interest. That is zero percent interest for a reason. You are paying more to make up for some interest. Why would the seller do this??? If they collect interest on a personal residence, they will pay ordinary income tax rates on the interest portion of each payment and capital gains on the rest of the payment if they are over the IRS Code Section 121 exemption. (In this example they would not pay any capital gains.)

Let's assume they lose 30% to income taxes over the life of the loan. How much is that?

$109,000 @ 5% amortized for 30 years is a payment of $585 per month. Total principal and interest payments over 30 years is $210,650 and $101,650 of that is interest. If they pay $34,000 of that to Uncle Sam they will net $167,650. 

Paying them $600 for 250 months puts $150,000 in their pocket tax free and even though its less overall money, they have it all in about 9 less years.

Keep in mind, you could offer more and still be saving yourself money.

Now you have raised your tax basis in your rental property which gives you more depreciation and can help when you resell someday. 

I would also negotiate a discounted payoff if you pay them off early, especially within the 1st few years when you may have negative equity.

Finally, if you hear someone talk about a minimum amount of interest that MUST be charged according to the IRS, that's true. But there are exceptions. You can find them in IRS code section 1274, I believe.