January 10, 2023 | Jack Jenkins Homes
‘We Bought a Home With a Loan From the Seller’: Owner Financing Can Help Buyers Score a Low-Interest Mortgage
After months of house hunting, Dennis Shirshikov and Natalie Backman couldn’t believe their luck when they finally found the perfect home. Located in Greene, NY, the three-bedroom house on a quarter of an acre had plenty of room for their three young kids, two dogs, and three cats. Best of all, it was a steal, listed at just $90,000.
“It needed some minor repairs but was completely livable,” Shirshikov recalls.
Shirshikov, who works at the real estate investment site Awning.com, had amassed a decent down payment of $20,000. Nonetheless, getting a good mortgage proved to be much harder than he’d anticipated.
“We struggled to get a good mortgage,” Shirshikov admits. “We could not get a mortgage with a decent rate.”
It was September 2022—a terrifying moment in the mortgage market where, over the past year, interest rates had more than doubled from the 3% to 7% range. Nationwide, this had ratcheted up the cost of borrowing money for a house by about 70%.
Yet Shirshikov’s real estate agent suggested an unusual workaround, which they decided to run by the seller.
“We spoke to the owner about owner financing,” Shirshikov says. They were thrilled when the seller agreed.
“We were able to lock in 6.5% interest on a 30-year note with the owner,” Shirshikov says. “We convinced the owner because he wanted to sell the home, but didn’t need all the money right away. We essentially sold him on getting the interest that the bank would otherwise collect for himself.”
Thanks to this enterprising financing arrangement, Shirshikov and his family were able to lock in affordable housing payments amounting to about $900 per month for the next 30 years.
“The process is simple: A lawyer drafted up a note, placed a lien on the property, and transferred the title at closing,” explains Shirshikov. “The legal team handles all the fees and filings, and every month I send the owner a check, instead of sending it to the bank.”
The growing interest in owner financing
While most homebuyers get loans from traditional lenders like banks, skyrocketing interest rates have spurred a growing number of homebuyers today to search for alternatives. Many are exploring owner financing, also known as seller financing, an arrangement where the seller finances the purchase of their own property.
Typically, with seller-financed mortgages, the deed to the home transfers immediately to the buyer, giving the buyer full ownership rights, while the loan is repaid over time, just like with a bank or traditional lender.
Owner financing is rare but tends to rise in popularity when interest rates rise as they’re doing today.
“As home prices and especially interest rates skyrocket, traditional mortgages are looking like increasingly bad deals and people are looking for alternatives,” says Martin Orefice, CEO of Rent to Own Labs, a site that helps people find rent-to-own homes.
While statistics on owner financing are limited because they’re conducted between private individuals, based on what he’s observed in his field, “It’s dramatically more popular than it was even a year ago.”
“Owner financing is still nowhere near as popular as using traditional lenders, but I do see it slowly gaining popularity—it’s definitely a growing trend,” says Nathan Singh, CEO and managing partner of the real estate brokerage firm Greater Property Group. “As interest rates have risen quite sharply in 2022, many buyers are looking for ways to avoid traditional lenders, and owner financing can be a great alternative. Some buyers can negotiate a more favorable deal using owner financing versus using a traditional lender. This is because the owner may be willing to finance at a lower interest rate than what the buyer could get from a bank.”
While not all sellers will be open to owner financing, they tend to warm up to the idea in cooler housing markets where it’s become harder to sell. Owner financing is particularly common in lower-priced housing markets and when homebuyers might not qualify for a loan with a traditional lender.
Even though Shirshikov and his wife had gotten pre-qualified for a loan with a traditional lender, they learned from their real estate agent that owner financing was a common practice in the town of Greene because houses there were not that expensive, so sellers were more willing to take a risk for buyers.
“The community is not particularly wealthy,” Shirshikov says. “A lot of people just can’t get a mortgage, so they’ll go the owner-financing route. Rather than rent, they basically buy a house over 30 years while the owner collects the interest from the mortgage.”
While owner financing can benefit both buyer and seller, both parties need to be careful in ensuring the terms are optimal and realistic for all involved.
“For the seller, they have to ensure the borrower is really qualified to make the payments,” says Ralph DiBugnara, mortgage banker, real estate investor, and president of Home Qualified in New York City.
As for the buyer, “the most important thing is that they’re getting competitive terms,” DiBugnara continues. “And that their mortgage note doesn’t haven’t anything tricky in it, in terms of balloon payments or negative amortization.”
Another consideration is the laws in your state. According to the Pew Research Center, two states have laws regarding seller-financed mortgages, while federal rules apply to sellers who finance more than three properties in a 12-month period.
‘I was concerned’
Even though Shirshikov was excited by the idea of saving on interest with an owner-financed deal, he still had questions and wanted to ensure they were protected when it came to the mortgage.
“Logistically I was concerned,” he says. “There’s a bunch of things banks don’t do, right? They don’t die. They don’t just disappear on you. There’s a lot of stuff that’s nice about that stability.”
Both parties hired attorneys and sat down to hash out the details. These legal costs were a pittance compared with what a bank or lender would charge in fees to close the loan.
“We ended up avoiding a lot of mortgage costs,” Shirshikov says, adding that $4,500 of their $20,000 down payment went toward closing costs. “Which is really low on an $85,000 house, because the bank wasn’t making any fees and the owner doesn’t charge them.”
Two things did come up during the negotiation process: The owner wanted a $2,500 pre-payment penalty in the first five years in case Shirshikov decided to pay off the whole loan early. The owner also wanted a “call option” after the third year, which enabled them to call for payment of the entire amount of the loan, at which point the buyer could refinance with another lender. Shirshikov agreed to the pre-payment penalty but was uncomfortable with the call option. The seller relinquished that point, and the deal was done.
Within two weeks of that agreement, Shirshikov got a home inspection and then moved in three weeks later.
“It’s very quick and it’s also not riddled with 10 different parties,” he recalls. “It’s not your lender trying to coordinate multiple inspectors. We were not expecting it to be that simple.”
His advice to house hunters feeling discouraged by the market is to ask sellers about owner financing—the worst they can do is say no.
“We spent a really long time saying no to ourselves, ‘Well, we can’t get that one’ and just moving on,” Shirshikov says. “Pitch it to the owner and let them say no. Maybe they need to get out of that house ASAP and they’re willing to take less, or maybe they’re willing to do owner financing. Maybe they have some other creative solution.”
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