It is very important to know the difference between owner financing and rent to own.
First a brief overview of rent to own, which we explained in the previous video here and then we will explain owner financing and how it works.
In a rent to own purchase, which can also be called a lease option, lease purchase, lease to own, rent to buy, or the like, you as the buyer, or tenant, have the option to purchase the home at any time during the rental period.
This means you have the legal right to purchase the home for a fixed period of time, but you’re not obligated to purchase if you decide not to, or if you’re unable to qualify for a mortgage.
Here are some highlights of a rent to own purchase:
- You pay an upfront fee, commonly known as an option fee, which is usually non-refundable.
- If you end up buying, the option fee is credited toward the purchase price of the home.
- There is a deadline before which you must purchase the home. This deadline is agreed to upfront when you are negotiating with the seller and will be listed in your paperwork.
- The portion of the option fee you must pay upfront is negotiable.
- Your purchase deadline varies based on when the seller needs to sell the home, usually from 1-4 years.
Here are just a few of the benefits of a Rent To Own purchase:
- It can make a lot of sense if you are currently unable to qualify for a mortgage.
- It’s also valuable if you want the flexibility to decide whether to purchase at the end of the rental period.
- You’ll have time to improve a low credit rating while you enjoy the peace of mind of knowing that you can eventually purchase your home.
- You have the potential to build equity.
- Rent to own gives you the ability to check out all the features and any possible faults of the home during your rental period.
Now let’s take a look at Owner Financing.
This can also be called a land contract, seller financing, contract for deed or the like.
In this case, you make payments to the seller without using a lending institution or bank.
Unlike rent to own, you are actually purchasing the home once the paperwork is signed.
With owner financing you will want to use a title company and have all the steps taken you would normally take when buying a home with a traditional mortgage.
So you will want to make sure there is a title search, appraisal, etc.
Finding true owner financing offers are tough because the seller of the house needs to own the home free and clear, otherwise you would need to qualify for a loan to pay off the remaining balance of the seller’s mortgage.
Consider the seller for a moment who owns a house free and clear. If they create a mortgage for you with owner financing, they will not be getting any money at all other then the down payment you pay them, minus their closing costs.
So for a typical seller to consider owner financing they will usually want:
- A large down payment upfront
- Higher sales price
- High interest
- High payments each month
- Full balance as soon as possible
In order for a seller to receive their lump sum of money faster than the 30 years a traditional mortgage is today, the seller would include what’s known as a balloon payment or “call.”
The balloon payment mortgage is where the loan is financed over a traditional mortgage length like 30 years. But the full balance on the loan is due when the “balloon payment” is due. This can be any amount of time the seller chooses.
A balloon mortgage is common with normal bank financing but more so with commercial loans rather than residential houses.
An example balloon mortgage through a bank is the 7 year Fannie-Mae balloon, which features payments on a 30 year period. But like it states in it’s name the balloon payment is due in 7 years.
Based on our experience with owner financing listings from private sellers, a buyer can expect a balloon payment to be due in 2-7 years. But again, this is up to the seller and their needs. The number of years until a balloon payment is due is something that will be discussed upfront with a seller, along with the sales price, interest rates, and monthly payments.
You also want to make sure the balloon payment due date you agreed to verbally with the seller appears accurately on the paperwork you sign at closing.
As an example scenario, imagine an owner financing scenario with a 4 year balloon payment. This would mean that after 4 years you will have to either refinance the amount due to the seller with a traditional bank or pay the home off.
If you are unable to pay off the house when the balloon payment is due the seller can foreclose on the house and keep any money paid to them so far.
Here Are Some Important characteristics of owner financing:
- The seller of the property acts as the bank.
- The seller holds the mortgage from you as the buyer which is secured by the property as collateral.
- Owner financing may work well for buyers with poor credit, but you usually need access to a large sum of money for a down payment.
So the big difference between the two offers are, with owner financing you are a buyer and with rent to own you are renting but you have the option to buy at a later date.
Hopefully you now have a basic understanding of how rent to own and owner financing works. And you have probably already decided which method would be best for you.
We think it’s very important to mention the confusion many sellers have with these two very different options for selling and buying a home. You see, many of the listings offered as “owner financing” are actually what we consider a rent to own.
So before you decide to eliminate all rent to own or owner financed properties from your home search, it would be a better idea to search both types of listings. When you find a home that looks like it could be right for you, give the seller a call and ask exactly what is being offered.
Watch The Video:
In Later Videos:
We provide you with several tips to help you tell the difference between rent to own and owner financing listings, regardless of the term used in the listing. On these videos we actually record our screen while doing a live search of listings along with actual calls to sellers.
The live recorded calls will help you pinpoint the important questions to ask a seller with your initial call. We even provide you with a question form for sellers that you can print out and use.
Asking the right questions on your first call you make to a seller about their house can save you a lot of time and heartache.
Because many buyers forget to ask these important questions and end up making a trip out to the house and even get emotionally attached to the place. Only to find out later that it isn’t a good match.
WOW just what I was searching for. Came here by searching for
the differences you explain. Thanks!
Salvador, I am glad this helped you! Let me know if I can help you with anything and best of luck with your home search.