Buying a home usually involves getting a mortgage from a bank or lender. However, not all buyers are eligible for traditional funding and don’t want to go that route. That’s where owner fundraising comes into play. This alternative provides buyers with another way to buy the property, while providing sellers with flexibility and potential financial benefits. Whether you’re looking for a home in Los Angeles, California or a home in Chicago, Illinois, this Redfin article explains owner funding, how it works, the general type, and when it makes sense for buyers and sellers.
What is owner fundraising?
Owner funding, sometimes called seller funds, is when the home seller acts as a lender on behalf of the bank. Instead of applying for a traditional mortgage, the buyer pays directly to the seller based on the agreed loan term and interest rate.
Think of the seller extending the credit to the buyer. The buyer pays in installments over time, and the seller holds the funding notes until the property is repaid or refinanced.
How does owner funding work?
Here’s a breakdown of how owner funding typically works:
Accept the terms: Buyer and Seller agree to the purchase price, down payment, interest rate, repayment schedule, and loan term. Signing Promissory Notes: Conditions are placed in a legally binding contract called a promissory note that outlines your obligation to repay. Make a down payment: Buyers usually put more money than traditional mortgages to reduce the risk of sellers. Monthly installments: Instead of paying the bank, the buyer pays directly to the seller. Balloon payment planning (occasionally): Many owners’ payment arrangements require a massive final “balloon payment” after 3-5 years. Transfer of conduct: Depending on state law and contract, the buyer may receive the deed of property immediately or only after the loan has been fully paid.
Examples of owner fundraising
Let’s say your home is listed for $250,000.
Buyers will lower $40,000. Sellers will be in charge of finance with 6% interest on the remaining $210,000 over 30 years. Buyers pay the seller, which costs approximately $1,260 per month, in principal and interest. If there is a five-year balloon clause, the buyer will have to refinance or pay the remaining balance at that time.
This shows how payments go directly to the seller rather than to the bank. In many cases, balloon payments require a refinance later.
Pros and cons of owner fundraising
Benefits for buyers
Easier Qualifications: May help people who don’t meet traditional lending requirements. Faster closure: There is no longer a longer bank approval process. Flexible terms: You can negotiate interest rates, repayment schedules, and down payments.
Buyer risk
Balloon Payment Pressure: Buyers may have difficulty refinancing or paying lumps regularly. Higher Interest Rates: Terms are not advantageous over bank funding. Buyer Vulnerability: In a land contract, default means losing both the home and all payments made. Limited Credit Reporting: If the seller does not report, payments may not be able to build credit.
Seller’s Benefits
More Potential Buyers: Attract buyers who cannot get traditional loans. Stable income: Collect monthly payments with interest. Sold faster: Helps you move your property faster in slower markets.
Seller’s risk
Default risk: Sellers face the risk that buyers have failed to pay. Sales deadline clause: If the seller still has a mortgage, their lender may request an immediate repayment. Legal Complexity: To avoid disputes, state laws and draft airtight contracts must be adhered to. Carrying loans: Connect the seller’s capital and turn long-term risk into them.
Common Types of Owner Financing
Owners’ funding is not all-purpose. Buyers and sellers can build contracts in a variety of ways depending on their needs, state law, and risk tolerance. Always work with a real estate lawyer to draft these agreements. Here are the most common types you see:
Land contract of conduct / contract
In this setup, the seller retains legal ownership of the property until the buyer makes all payments under the contract. Buyers have what they call “fair titles.” Once the loan is fully repaid (or refinanced), the seller will transfer the deed to the buyer. These contracts are relatively simple, but in default, there is a risk for buyers as they can lose both their home and their payments.
Lease purchase agreement
This type of owner financing, also known as a lease agreement, allows buyers to purchase options, or sometimes obligations, at the end of the lease term. A portion of your rent may be credited towards your down payment or purchase price. This will help buyers who need time to improve their credit or save money, despite the terms heavily dependent on the initial contract.
Mortgage or trust deed
This structure allows the buyer to receive the deed and immediately become the legal owner, while the seller will retain a lien on the property until the loan is paid in full. This setup is safer for buyers and features, like traditional mortgages.
Wrap Around Home Loan
A wraparound mortgage (or “wrap loan”) occurs when the seller still has a good mortgage on the property. Sellers continue to pay for the original loan, while buyers pay the seller with a new, large loan that “enves” the existing loan. Wrap-around mortgages are attractive to buyers who want a more simple qualification, but they take a higher risk if the seller fails to pay the underlying mortgage.
Second mortgage financing
Instead of funding the entire purchase, the seller could carry a second mortgage, while the buyer would receive a major loan from the bank. For example, a bank lends 80% of the purchase price, a buyer defeats 10%, and a seller lends the remaining 10%. This helps buyers bridge the financing gap while getting traditional loans, but adds to the complexity
When should owners be considered raising funds?
While owner fundraising is not the right choice for anyone, it makes sense in certain circumstances.
As a buyer
You are not eligible for a traditional loan due to your credit history or self-employed income. I want to move quickly without waiting for long bank approval. You can create a strong down payment, but you will need flexible loan terms. I plan to refinance later, but I need a short-term solution to buy it now.
As a seller
We want to expand our pool of potential buyers, especially in slow markets. The entire selling price does not need to be paid upfront, preferring a stable income from monthly payments. They are willing to take on some risk, deeming they can earn more money through their interests. You can own the property completely (no mortgage) and fund it without restrictions from the lender.
If any of these apply, owner funding may be worth exploring. A real estate attorney must be involved in protecting both parties.
Alternative Financing Options
If the owner’s funding is not appropriate, buyers can consider other creative or flexible funding options, such as:
FHA Loans: FHA loans backed by the Federal Housing Administration allow lower payments (only 3.5%, 3.5%), and are accessible to buyers with perfect credit. VA Loans: For eligible veterans, active service members, or military spouses, VA Loans do not offer down payments and competitive fees. USDA Loans: Designed for rural and certain suburban areas, USDA loans provide 100% funding to qualified buyers. Contracting to a Lease: Similar to a lease purchase, but not formal, these arrangements allow buyers to rent a property with the option to buy later and apply some rent to the purchase. Hard Money Loans: Short-term loans from private lenders that are often used by real estate investors. These have higher interest rates, but they are faster to approve. Shared Equity Finance: Third parties, such as investors and nonprofits, will support a down payment in exchange for appreciation for the future of the home.
By exploring these alternatives, buyers can help them find a funding route that suits their situation, while keeping homeownership within reach.
Frequently Asked Questions about Owner Funding
1. Is owner funding legal?
yes. However, terms vary depending on the condition. Always work with a real estate lawyer to build a contract.
2. Why does someone provide owner funding?
Sellers can fund owners, sell assets faster, and generate income from monthly payments with interest to attract more buyers. It is especially appealing when the seller owns the house entirely and does not need the perfect selling price in advance.
3. Who holds the deed in the owner’s funding?
It depends on the type of agreement. In a land contract, the seller will maintain the act until the loan is fully paid. With a mortgage or trust deed arrangement, the buyer will immediately obtain the deed, but the seller will maintain the lien until the balance is resolved.
4. Who pays property taxes to raise funds from the owner?
Usually, the buyer is liable for property taxes and insurance when he owns it, even if the seller still holds the act. This should be clearly explained in the funding agreement.
5. Does owner fundraising discredit you?
That’s not necessarily the case. If the seller reports the payment to the credit department, it may help build the buyer’s credit. However, many private contracts have not been reported. This means that timely payments do not improve your credit and can only be damaged if the seller takes legal action or missed payment.
6. What is the typical interest rate for owner fundraising?
Prices are negotiable, but in many cases they are slightly higher than traditional mortgage rates.
7. Can I refinance the buyer later?
yes. Many owners’ financing transactions are designed with short-term loans where the buyer ultimately refinances with a traditional mortgage.
8. Do sellers still need to pay their mortgage?
If the seller has a good mortgage, they have to keep paying. Legal review is essential as not all lenders will allow owners to raise funds in this situation.
