Property Rights
What is a Property Deed and How Does it Work?
Learn about different types of deeds you might encounter when buying or selling land, their legal requirements, and how to modify them.
Explore how owner financing works for land, including its pros and cons, types of agreements, and key considerations for buyers and sellers.
There are many avenues for financing when it comes to buying and selling land. One less traditional way to finance your next deal is owner financing. Owner financing is worth exploring in many situations, whether you are selling a large, high-value property, a unique or remote piece of land, or if you are a buyer who may not qualify for a traditional bank mortgage. Owner financing can make the transaction faster and more flexible and, depending on your circumstances, could be an ideal solution for buyers and sellers.
Contents
What is Owner Financing in Real Estate?
Who Holds the Title in Owner Financing?
How Long is the Term for an Owner-Financed Sale?
Pros and Cons of Owner Financing Land Sales
What is Owner Financing in Real Estate?
With owner financing — also known as seller financing — the seller of the land also acts as the lender. Rather than paying the full price upfront or going the route of a traditional bank-backed mortgage, the property buyer agrees to make payments over time directly to the landowner.
Like a mortgage from a bank, the buyer and seller agree on a down payment, the amount of monthly payments, the interest rate, and the length of the financing term. Then both parties sign a promissory note outlining the agreed-upon terms. The seller typically holds on to the title until the property is paid in full.
Types of Owner Financing
Owner financing may be structured in a few different ways, including the most common:
Land Contract
In a land contract, the seller retains legal ownership until the buyer pays off the full amount. The buyer, however, is typically responsible for the property's upkeep and taxes during this time. In a traditional land contract, the buyer can build equity and refinance.
Wrap-Around Contract
In a wrap-around contract, the seller pays their existing mortgage using the buyer’s payments and keeps the difference as profit.
Lease-Purchase Agreement
This contract allows the buyer to lease the land for a set period with the option to buy it at the end. A portion of the lease payments may go toward the eventual purchase price. The tenant usually takes responsibility for maintenance, taxes, and insurance, and the sale occurs once the lease ends.
Each agreement type has specific rules regarding who holds the title, which can affect the rights and obligations of both the buyer and the seller.
Who Holds the Title in Owner Financing?
In most cases of owner financing, the seller will keep the title until the buyer fully pays off the loan. Before entering into an owner financing agreement, it is also important for buyers to pay for a title search on the property to ensure that the seller is indeed the title holder and is in a position to sell the property and hand over the title once all payments have been made.
How Long is the Term for an Owner-Financed Sale?
Owner-financed deals are typically short-term loans. To keep monthly payments low, the loan is amortized (or distributed across a repayment schedule) over 30 years with a large balloon payment due after only five or 10 years.
Often with balloon payment terms, the buyer never intends to fulfill the full terms of the loan. Instead, the buyer builds equity or secures more traditional financing in the short term and then pays off the original loan long before the balloon payment is due.
Note: The Dodd-Frank Wall Street Reform and Consumer Protection Act now prohibits balloon payments for residential mortgage transactions when the buyer plans to live on the property. However, the Dodd-Frank Act does not apply to commercial real estate, vacant land, or investment properties.
That being said, consulting with a qualified real estate attorney for owner-financed transactions is always advisable.
Pros and Cons of Owner Financing Land Sales
In many situations, owner financing is the best option for buyers if traditional financing isn't possible. So if a seller offers owner financing, it can expand the pool of potential buyers and potentially lead to a higher sale price. That being said, it also comes with risks. As you explore if owner financing is right for your circumstances, take a look at the pros and cons.
Pros for Buyers
- No Bank Involvement: Buyers who may not qualify for traditional financing can purchase land through owner financing.
- Flexible Terms: Terms are negotiable between the two parties allowing for more flexibility in down payment amounts, interest rates, and repayment schedules.
- Simpler Closing Process: Without bank approval, the closing process can be quicker, less complicated, and less expensive.
Cons for Buyers
- Higher Interest Rates: Interest rates in owner financing agreements are usually higher than traditional mortgages.
- Shorter Repayment Terms and Balloon Payments: Owner financing typically has shorter terms, meaning larger monthly payments. Plus many agreements have large balloon payments due after just a few years.
- Risk of Default: If the buyer defaults on payments, they could lose the property and any equity they’ve built.
Pros for Sellers
- Larger Pool of Buyers: Offering seller financing can attract buyers who might not otherwise be able to purchase the land, which could be advantageous in a competitive market.
- Potential for Higher Sale Price: Sellers can often charge a higher price when offering owner financing, as buyers are typically more flexible on price when they can’t secure traditional loans.
- Income Stream: Instead of receiving a lump sum at closing, the seller receives monthly payments, creating a steady income stream over time.
Cons for Sellers
- Risk of Default: If the buyer defaults, the seller must go through the foreclosure process, which can be time-consuming and costly.
- Delayed Full Payment: Sellers must wait years to receive the full amount of the sale, which could limit their ability to reinvest the funds elsewhere.
- Maintenance Responsibility: Depending on the structure of the agreement, the seller may still be responsible for certain property-related liabilities until the buyer holds the title.
Owner Financing FAQs
Q: What is owner financing?
A: Owner financing, also known as seller financing, is an agreement in which the seller of the property also acts as the lender instead of the buyer securing a traditional bank-backed loan. The buyer pays for the property over time in installments directly to the seller.
Q: How does owner financing work?
A: In an owner financing agreement, the buyer and seller agree on key terms such as the down payment, monthly payment amounts, interest rate, and loan duration. A promissory note is signed, and the seller typically retains the title until the buyer has paid off the loan.
Q: Who holds the title in owner financing?
A: In most cases, the seller will remain in possession of the title until all payments have been made or the buyer secures more traditional financing to pay off the remainder of the loan.
Q: What types of owner financing are available?
A: There are several types of owner-financing arrangements, including land contracts, wrap-around contracts, and lease-purchase agreements.
Q: What should buyers consider when buying owner-financed property?
A: It can be a good option for buyers who may not qualify for traditional loans. They can still purchase land with more flexible terms and a quicker and easier process. However, there are typically higher interest rates than a bank loan and shorter payment terms. Plus, you can risk losing the property and any equity if you default on payments.
Q: What should sellers consider when offering owner financing?
A: Owner financing can increase the pool of buyers in competitive markets. Since buyers may not qualify for traditional loans, they may be willing to pay a higher sales price, and monthly payments are an added revenue stream. However, if the buyer defaults, you may need to go through the hassle of foreclosure, and since the loan delays the full payment, you cannot invest that capital elsewhere.
Q: Should I consult a real estate attorney for owner financing agreements?
A: Yes. You should consult a qualified real estate attorney when considering owner financing. They can help clarify the legal aspects of the agreement and address all necessary details, protecting both parties in the long term and providing peace of mind about the transaction.
Final Thoughts
For buyers, owner financing can offer an alternative means to purchase land when traditional financing isn’t an option. For sellers, it can broaden the pool of potential buyers and create an alternative income stream.
Ultimately, the choice to use owner financing depends on the specific circumstances of the individual buyers and sellers. Both parties must carefully weigh the risks and benefits, ensuring they fully understand the terms of the agreement before committing.
Although owner financing bypasses a traditional mortgage lender, consulting a real estate attorney is advisable to address all details. With careful planning, it can be a flexible and beneficial arrangement for both parties.
