Owner financing is the most common way to buy a property with "no money down". Instead of getting cash at closing, the seller agrees to finance all or some part of the purchase price. What this means is the owner of the property will act as a bank and lend the buyer all or part of the money needed to purchase the property.
It is estimated that nearly 35% of all the properties in the United States are owned free and clear (no mortgage financing). A surprising number of those owners would be willing to finance all or part of the purchase price as a mortgage and take payments over an agreed upon period of time.
Generally, you will be getting a second mortgage from the seller. That means you will get the majority of your financing (the first mortgage) from a primary financing source like a bank. The seller would provide most or all of the balance in the form of a second mortgage.
There are four types of owner financing to that you could ask for:
- Deferred Payments: Although the seller will not go for this option most of the time, it’s certainly worth asking for in the beginning. This creative financing technique simply defers the repayment of the principal until a specified future date.
- Principal-Only Payments: This is a monthly (or quarterly) repayment plan where 100% of your monthly payments are going towards the repayment of the principal.
Example: The seller agrees to finance $100,000 over 20 years with a monthly payment of $417 per month. ($100,000 divided by 240 monthly payments.)
- Interest-Only Payments: With interest-only payments, you will make monthly payments to the seller for a fixed period of time. After that period expires, known as the "balloon" period, you will need to pay off the entire amount of the principal balance. You would typically do this by either selling the property or refinancing it.
Example: The seller agrees to finance $100,000 at 7% over 5 years. The monthly payment at 7% simple interest works out to $583.33 per month.
- Principal and Interest Payments: This is similar to the interest-only payment option except the monthly payments add principal reduction as well. Since the principal and interest payments are amortized over a period of time, the longer you negotiate the amortization period, the lower your payments will be. You will still likely have a balloon payment after a specific period of time (i.e. 5 years).
Keep in mind that market conditions can affect a seller’s willingness to extend owner financing. In a buyer’s market, when homes are more difficult to sell, owners are more inclined to be creative and do whatever it takes to help sell their property.
Conversely, in a seller’s market, when homes are selling quickly, property owners have less incentive to extend financing.