Ah, Valentine’s Day…
And the purchase money mortgage is in the air. Just in time for Valentine’s Day, I thought it appropriate to bring up the analogy of seller financing as a romantic notion – to be avoided. Oh, how the heart races when you meet that special someone, especially so close to Valentines Day! However, if your heart races because you just located that “perfect” investment property – be very wary. Especially a property where the owner is offering a purchase money mortgage…Remember, owner finance can at first blush appear extremely attractive. But property investing is not meant to be done with the heart and emotions. This is a business – and a risky one at that. Make sure you keep your head about you, and coldly run through the numbers of any negotiation for any owner financed home, owner financed commercial property or owner financed land.
Some examples of owner finance…
As one example, I negotiated and eventually acquired a four-family house, where the seller was willing to provide the mortgage on the property. He had none on it at the time, so he was offering me a first mortgage on the house. He was very adamant about getting his price for the property. However, as we negotiated, he became very, very flexible on terms. So I was able to obtain a below-market interest rate, with a 30- year amortization period, with a long term (10 years) balloon. It wound up that, even though I was paying about ten percent above market value, the monthly mortgage payments ended up being so low, my monthly cash flow was ridiculously positive. So this property was a real money-maker for me.
Seller financing, example two…
Recently, as a board member of a local non-profit arts organization, I have been involved in deciding upon whether our group should attempt to purchase the building we have been renting for our various arts classes and performance space. It is an old warehouse that has provided the organization with a certain panache and branding as an edgy arts center. Purchasing the property would be a coup, if financially feasible. The owner of the property, to make things a tad messy, also serves as our group’s founder and current artistic director. Negotiations have begun between our board and her and her business partner, calling for them to hold the mortgage on the property in selling it to us.
What’s the property condition?
Unfortunately, the building is in need of many repairs and upgrades. In addition, back taxes are owed on it, and we, the organization, would need to come up with the funds to pay these back taxes as part of the buy-out. We are currently attempting to pull together all the necessary financials and doing our due diligence to purchase this commercial building. Most of our board are “on board” with the purchase. At this point in time, however, I remain skeptical until all my questions about the financial ramifications of the purchase – now, and into the future few years, can be answered properly. Let this be a lesson for novice investors: do not get swayed and overeager just because a seller is offering owner financing.
You must keep a cool head about you, and be brutally honest about running the numbers. Don’t just consider only the sales price, as well as your monthly mortgage payment. Be very aware of the condition of the property, and what improvements you’ll need to make in the short and long term! In the example above of my purchase of the four-family house, I had the house inspected, and found it to be in very excellent condition, and in need of no major repairs. The same cannot be said of the warehouse my organization is considering purchasing. Always listen to your inner voice of financial reason – and never ever get motivated with emotion when investing in any property – be it residential or commercial.
Major advantage of seller finance
I have written in prior articles here about the major advantage that seller financing offers you as a buyer of any investment property. I have noted that “any money you don’t have to put up yourself when you buy investment property offers you the opportunity to increase your leverage on the purchase. And if you don’t have to borrow from a bank (or worse, a hard money lender) then you will be saving your credit line possibilities for further down the road. And if an owner is willing to take back mortgage paper for at least some part of the purchase price, you will be ahead of the game. Even if that amount is small, or not a first mortgage, it will benefit you. Every little bit of leverage goes a long way. Of course, if you can obtain a first mortgage from the seller, even better still.”
Remember, the mortgage a seller gives you will most likely not be reported to a credit bureau, as it would if a bank held the mortgage. In this way, you can preserve your credit rating, as well as keep your credit line possibilities open more. It’s a tremendous way to gain crucial leverage on the property the seller will hold paper on, as well as allow you to retain your bank credit for another property at the same time.
Owner financed homes costs
I have also mentioned in prior articles here that “you can expect to pay for the seller’s attorney’s fees for preparing the mortgage. However, you’d be doing the same thing (paying attorney fees) if a bank was involved in granting you a mortgage. If a seller is willing to offer a first mortgage, you can expect to negotiate a break in interest rate if you are paying market rate or slightly more for the property’s purchase price. Conversely, if you have negotiated a great price on the building, expect to pay a slightly higher interest rate on the loan than a conventional bank mortgage would currently offer.” It is in this way that you’ll realize much better cash flows when operating your property on a monthly basis, yielding greater profits in the long run.
While owner financing helps you greatly in increasing your overall financing leverage and future options, don’t waste your time making it your number one pursuit when searching to buy investment property. It is still an elusive task and will take an inordinate amount of your time. It would be better to use your time more wisely – time that could be spent on more fruitful property searching. Don’t pass up a great deal simply holding out to obtain seller financing. But if you do manage to come across a willing seller offering some amount of owner financing, by all means, don’t pass it up.
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