Traditionally, a buyer of real property (for which they are not paying cash) seeks a loan from a bank or similar lending institution to pay for the property. For a variety of reasons, such as the buyer being unable to obtain a traditional loan, buyers and sellers turn to seller financing to pay for the sale of property. This article will briefly outline how seller financing works, the advantages and disadvantages of using seller financing, and regulations regarding its use.
If, after reading this article, you have further questions regarding seller financing in Austin, Pflugerville, or Round Rock, contact the real estate attorneys at the Law Office of Farren Smith for a consultation.
Basics of Seller Financing
When a home is sold through seller financing, the seller takes the role of the lender, which would typically be a bank or similar institution in a traditional financing transaction. The seller extends credit to the buyer sufficient to cover the purchase price of the home, minus any down payment made by the buyer. As with a traditional loan, the buyer and seller sign a promissory note outlining the terms of the financing. The seller and buyer then record the deed of trust with the county in which the property is located, which creates a lien on the property in favor of the seller. Finally, the buyer repays the seller over time, with interest, according to the terms of the promissory note.
In the event that the buyer fails to make payments on the deed of trust, the seller’s recourse is to foreclose and retake possession of the property. Often, this type of financing is done as a wraparound mortgage where the seller continues to make payments on the original mortgage while receiving payments from the purchaser, creating two mortgages on the property.
Advantages and Disadvantages of Seller Financing
Seller financing, of course, comes with certain advantages and disadvantages. Some important advantages of using seller financing include:
- Provides a buyer that is unable to obtain a traditional loan from a bank with a means of purchasing the property.
- Allows the buyer and seller to negotiate on terms, such as interest rate and repayment schedule, that would typically be dictated by a third party (the bank).
- Typically closes more quickly than a sale done with traditional financing, as the entire process of applying for and negotiating a loan with a bank is eliminated.
However, these advantages come with certain drawbacks and risks to consider. These include:
- The seller assumes more risk than they would in a typical sale, as they are extending the credit themselves. In the event of a default, the seller will face the time and expense of foreclosing.
- From the buyers perspective, there is no guarantee that they will receive clear title upon full repayment if there is another outstanding encumbrance on the property. For example, in the case of a wraparound mortgage where the seller fails to make payments on the senior (original) mortgage, the property may be subject to foreclosure by the original mortgagee, despite the purchaser making all payments to the seller.
Statutory Limits on Seller Financing in Texas
A variety of recent federal and state regulations have placed certain restrictions or requirements on the use of seller financing. The most significant of these is the SAFE Act and its Texas equivalent. The primary restriction imposed by the federal SAFE Act is a licensing requirement for certain types of owner financing. The licensing requirement applies to traditional forms of seller financing, including mortgage wraps, but there are a few important exceptions:
- The licensing requirement does not apply if the property being sold is the seller’s homestead.
- The requirement also does not apply if the sale is to a family member.
- Finally, the requirement only applies to “professionals,” which has been interpreted to mean someone who makes more than 5 such sales per year.
The SAFE act requirement will therefore generally not apply to a one-time seller selling their primary residence, but instead only to real estate professionals who make many such sales per year.
Questions? Get in Contact with Sheehan Law, PLLC
If you have any questions about seller financing in Texas or anything else regarding real estate law, please do not hesitate to contact us by phone at (512) 251-4553 for an initial consultation. Other contact information is listed in the upper right-hand area of this page, and a contact form is also available on our contact page.