What is Owner Financing?
Owner financing is when a seller, usually of a property or a business, provides financing for the purchase directly to the buyer under a for sale by owner situation. Owner financing is also referred to as seller financing or creative financing.
[Related: 5 Seller Financing Options for Homebuyers]
How Does Owner Financing Work?
When arranged under a for sale by owner situation, the sale typically requires a form of down payment (often a percentage of the sales price) and the transaction is facilitated and recorded by a promissory note.
The note, often called an owner financing contract, will contain all terms of the purchase including interest rates, amortizations, and other contractual language. This process usually involves legal counsel or guidance.
Pros and Cons of Owner Financing
Because owner financing bypasses bank or third-party financing, it often saves both buyer and seller time and money. It allows both parties to create terms that may be more flexible and advantageous, such as tax advantages for the seller or a more favorable payment schedule for the buyer.
For an investor looking for a return, the higher interest rate typical of owner financing (due to the owner’s assumption of default risk) may be advantageous if it generates a larger income stream than could be had through returns on traditional savings and investment vehicles.
For the buyer, owner financing may extend the opportunity of home ownership that they may not have easily obtained through conventional financing.
The primary disadvantage for the seller is that the seller assumes the default risk of the purchaser. To offset the increased risk, the seller may require a larger down payment or higher interest rate, which is a disadvantage to the buyer.
Owner Financing vs Rent-to-Own
Owner financing differs from "rent-to-own" scenarios in that with owner financing the property is sold, that is, ownership is immediately transferred to the buyer. With a rent-to-own arrangement, the seller retains ownership until the renter/buyer exercises the option to buy.