Many investors get excited about the idea of Seller Financing because they think it will give them one big benefit: being able to make low—or no—down payments. And while that may be true sometimes, is that really the biggest benefit of Seller Financing? In this episode, Jeff breaks down the many different benefits of Seller Financing and proves that the real benefit of Seller Financing is the fact that you as the Buyer have a huge say in the loan terms.
As you may have noticed, I kinda like to talk about seller financing. Okay, I’m being sarcastic. You definitely know I love to talk about seller financing and act as an advocate for it. And when I get to talk to people who have learned about seller financing, but especially those who haven’t done it yet, they often say to me things like, you know, I don’t have a lot of capital, and that’s why I want to get into seller financing, so I can buy deals with little or no money down. And I always kind of stop and just go, Hmm, interesting. And it makes me wonder, I think we need to have this conversation: is the point of seller financing, to have a low or no down payment situation? So in today’s episode, we’re going to talk about that and I’ll give you a hint. The answer is no. Let’s keep the theme song. We’ll jump right in.
Welcome to Racking Up Rentals, a show about how regular people, those of us without huge war chest of capital or insider connections, can build lasting wealth acquiring a portfolio of buy and hold real estate. But we don’t just go mainstream looking at what’s on the market and asking banks for loans, nor are we posting We Buy Houses signs are just looking for “motivated sellers” to make lowball offers to. You see, we are people-oriented deal makers, we sit down directly with sellers to work out win-win deals without agents or any other obstacles, and buy properties nobody else even knows are for sale. I’m Jeff from the Thoughtful Real Estate Entrepreneur. If you’re the kind of real estate investor who wants long term wealth, not get rich quick gimmicks or pictures of yourself holding fat checks on social media, this show is for you. Join me and quietly become the wealthiest person on your block. Now let’s go rack up a rental portfolio.
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So is the point, the main benefit of seller financing, getting a low down payment or maybe no down payment at all? All right, let’s just start by answering the question. No, that is not the point of seller financing. And it’s not even the main benefit. Now, low down payment, maybe no down payment is possible, sure, it is possible. But it’s certainly not always the case. And I’m here to tell you that there are lots of other benefits that are just as good if not better than that one. And the punchline here is you could do a deal with seller financing, where you had a massive down payment and it would still be super-duper awesome. That’s a technical real estate term. Super-duper awesome. So if having a low or almost nonexistent down payment isn’t the main point in and of itself, then what is the main benefit of seller financing? Let’s take a look because that’s what I want to answer for you in this episode.
So in order to do that, let’s break down a loan into its various components and just sort of talk through and take a look at each of these. So one element of a loan, any loan is indeed a down payment. And the down payment is usually tied to, you know, the idea of a loan to value amount, right? So a lender has a maximum loan to value amount, which creates a minimum down payment amount. So that is one element. Now, when you’re dealing with seller financing, it’s kind of rare in my experience that a seller has a specific percentage or something in their mind that they want down. Now sometimes you will hear a seller say like I want 20% down, which is just really their way of saying I want skin in the game, and they don’t really mean 20% versus 18 or 22. They’re just trying to throw out something that’s like a conceptual number that says I don’t want you buying this property and then walking away from it because you don’t have skin in the game.
But the down payment is going to be dictated by really two things. A: what both parties are comfortable with and agreed to and B: any outstanding debt on the property that the seller has, that may need to be handled or cashed out would be the simplest way to do that with your down payment, right. So if the seller has a $500,000 property that you’re buying, and they still owe $50,000, perhaps your down payment ends up being a little more than $50,000 to take out their existing debt. But there’s no usually preconceived notions about what a down payment has to be. And that is indeed a benefit of seller financing.
What’s another component? How about the interest rate? Well, the interest rate is also just a function of what both parties agreed to. And what’s really cool about an interest rate when it comes to seller financing is that it’s not really necessarily tied to kind of “market rates” for bank loans. Most sellers don’t say, Well, let me check what Wells Fargo’s loaning out and then I’ll just do exactly what Wells Fargo says. In my experience, what the seller is more concerned with is what the monthly payment is going to be to them, or what the interest rate looks like, by comparison to what they feel their alternatives are, right?
So we just saw an ad today for a credit union offering a savings account at 1%. If the seller feels like, that’s the type of Plan A that they would normally have, if they had a whole bunch of cash they needed to do something with, now we come along and we say well, how about I give you three times what you’d get otherwise, and now you’ve got a 3% interest rate that everybody feels good about. But it was identified and determined and agreed to, mostly in the context of what the seller felt their alternative options were.
Conversely, if the seller says I can get 6% all day in my mutual funds, I’ve been getting it, you know, every quarter for the last 10 years. Now, your interest rate negotiation is going to be based on that point of reference. But at the end of the day, it’s about what both parties agree to, and what you feel like would work within the deal that you are willing to do.
Another component of a loan is the type of payment, right? How is the payment calculated? Is this an amortized loan, where you’re paying back the principal over a certain amount of time? Is it a fast amortized loan like 5 or 10 years; is a slow amortized loan like 30 years or even longer; is it an interest only loan? Is it some other type of unique loan structure, you know, interest only for the first year and then amortized after that? It could be any number of things. And again, it’s really just about what both parties agreed to, and what meets both party’s needs.
How about the term length, right? Is this a 30 year loan? Is this a three month loan? Is this anything in between? Is this a 10 year loan? The length of the term also not a pre-determined thing. It’s just what both parties can agree to, and both feel like they can live with and get a win from.
Let’s talk about the qualification process. Well, when you go to a bank, whether you’re getting a conventional loan for residential property or commercial loan for an investment property, either way, the bank or the lender, even if it’s a local professional, hard money lender, they have a process that you go through and they have dictated this process in advance before you ever showed up. If you want the loan, you go through that particular process. With seller financing, by contrast, the qualification process is largely the seller getting to know you and getting to the point where they feel comfortable with you. Perhaps you end up providing some financial information about yourself: a credit report, a bank statement, references, things like that. But the qualification process here is, again, what both parties really are willing to do together and what makes everybody feel comfortable about the transaction.
How about collateral requirements? Well, bank loan, credit union loan: very specific collateral requirements. This property is going to be the collateral for the loan; there are requirements about oftentimes the amount of equity that’s maintained in that collateral, the collateral has to be appraised, all of that kind of stuff. Perhaps the collateral in a commercial loan setting might be inspected, or there might be some kind of a site visit occasionally, from the lender. Seller financing loan? Very different. The seller financing loan very well might involve this particular property as collateral, as well. But a seller financing loan might allow for a change of the collateral throughout the course of the loan. And so when it comes to collateral requirements, lots of flexibility based on what both people are comfortable with.
Fees and points, you know, well if you’re working with a mortgage broker or something like that, you might very likely have fees or loan fees and points to pay on your loan. With a seller financing loan? I guess it’s conceivable, but I’ve never been involved in a seller financing loan that had any loan fees, had any points, largely because the seller didn’t even realize that that was something that would be up for discussion. It’s just not common in their mind that you wouldn’t have to agree to that either. But again, this is just what both parties agreed to. And it’s not even really on the radar screen of the seller, as something to, you know, ask for or try to work into the deal.
How about something like PMI? Well, certain bank loans, lots of bank loans, especially depending on the amount of down payment you make, there might be private mortgage insurance that has to be there so that they feel extra secure that you are going to somehow be able to follow through on your on your commitment to pay the loan back. Seller financing loan? Pretty much never in my experience.
Appraisal on a seller financing loan? No, the seller is not going to make you appraise their own property so that they can decide if they give you a loan. So there’s no cost for that; maybe you choose to do an appraisal yourself for your own knowledge, but the lender is not imposing that like a bank or credit union lender would as part of their underwriting process and their loan approval process.
How about an annual review? Well, there’s certain commercial loans that require an annual review, and a submission of, you know, rent roll and income and expense report and receivables and things like that. Seller financing loan? Not likely, not likely at all; I would say almost unheard of in the seller financing loan space.
So I just threw out at you a lot of different elements of loans, we kind of talked through how it works sometimes with banks and credit unions and how it works, by contrast, with sellers. So let me ask you this question: in all the stuff I just said, what’s the common denominator? What is the thing that was the same that I said over and over again, whether we’re talking about collateral requirements, interest rate, down payment, or the length of the term? The answer is the common denominator there is flexibility. You have influence on the loan you’re getting when you’re doing a seller financing loan. This, my friends, is the main benefit; you have a say in the loan that you get.
Now, when you’re talking about a bank loan or credit union loan, sure you have a say in that loan; you get to say whether you accept it or not. But you don’t sit down with the banker and say, okay, you know what, I’m thinking a little more 3.75 than 3.95. And I’m thinking 35 year term instead of 30. What say, you? No, that’s not how it goes when you’re talking to a bank. They say, here’s how it’s going to work, they say take it or leave it and you get to decide if you take it or if you leave it.
But when you’re talking to a seller, you have a say in the terms. You don’t just get necessarily to like say carte blanche, here’s how it’s gonna go seller, but you have the ability to influence that conversation. It’s truly a conversation. It’s truly a negotiation. And you have the ability to customize it to both buyer and seller’s needs, tailor it and make it whatever it needs to be for both of you to be happy.
So that, my friends, that is the main benefit of a seller financing loan. And I want to bring it back to the down payment conversation because that’s how we started this. Is the main benefit a low down payment? No, no; you might have a low down payment, you might even not have a down payment or have a miniscule down payment. And if you did, that’s great. But I’ll tell you what, that’s not super common in my deals. I might make a huge down payment, for various reasons; maybe the seller has got a bunch of debt that needs to be cashed out. But I can make a huge down payment and still have this loan be amazing and benefit me in so many ways. Because I have a say, in the terms in the negotiation, because I’m talking about it directly with the lender. And all that matters is that they feel good about it and I feel good about it.
So as you’re out there seeking your seller financing loans, don’t worry about how much down payment is required. I know that’s easy for me to say. And you might say well, gosh, if it takes 40% down and the loan might still be amazing, but I don’t have the 40%, that’s a separate conversation. My point to you is that even if you have to put 40% down on a seller financing loan. don’t discount the fact that that loan might still be far superior to anything you could get anywhere else because of the other elements of flexibility you might have a say in.
That’s it for today’s episode of Racking Up Rentals. So again, show notes can be found at thoughtfulre.com/e142. Please do us a HUGE favor by hitting that subscribe button in your podcast app and rating and reviewing the show. If you are not already a member of our Facebook group for Thoughtful Real Estate Entrepreneurs, what are you waiting for? It’s called Rental Portfolio Wealth Builders and we need you in there because we need your ideas and we need to build our community, so head over to Facebook, look up Rental Portfolio Wealth Builders, or if you want the shortcut just type group.thoughtfulre.com into your browser and we will redirect your right to that page. If you liked this episode, please take a screenshot of it and post that screenshot to Instagram and tag us. We are @thoughtfulrealestate. So, my friends, I’ll catch you in the next episode. Until then, this is Jeff from the Thoughtful Real Estate Entrepreneur signing off.
Thanks for listening to Racking Up Rentals where we build long term wealth by being win-win dealmakers. Remember: solve the person to unlock the deal and solve the financing to unlock the profits.