Vendor/Owner Finance
The words Vendor Finance when used in conjunction with the sale of real estate don’t often paint a good picture in the minds of many people. Vendor Finance is often associated with unreasonable terms and dodgy dealings which invariably don’t work out for the purchaser. This is not always the case and is a misconception due to a general lack of understanding on how these deals should be structured.
In actual fact Vendor/Owner Finance could be the solution for a property owner being able to sell their property in a timely manner for the price they have set. With the global credit squeeze impacting on Australia it is now harder to borrow money from a bank, forcing many renters to put on hold the dream of purchasing a property. Vendor Finance offers a way around this, as long as the property seller offers reasonable Vendor Finance terms then it is an effective alternative means to sell a property with minimal risk.
What is Vendor/Owner Finance?
It refers to a situation where the owner of a property provides a loan to the buyer of the property to purchase the property from the lender/property owner.
The reason Vendor/Owner Finance has had such negative press is because some property owners in the past have offered purchasers an interest rate which is more than 2% above the market rate and have set the sale price 10-20% above what the market price of the property is. In the end the purchaser can’t afford to make the repayments to the Vendor and the Vendor repossess the property.
Vendor Finance isn’t for everyone and is something which requires a solicitor to prepare all the legal documentation. Ideally, it would suit a property owner who has very little or nothing owing on their property. Our recommendation is that a vendor/owner should offer the purchaser an interest rate at or just below what the current interest rate is, on the condition the property is purchased at the price the seller is requesting. This benefits both parties as the purchaser gets a reduced interest rate over the period of their mortgage and the seller receives the price they believe their proeprty is worth.
Advantages of Vendor/Owner Finance for the Owner
1. The Vendor/Owner has a mortgage over the property
If the purchaser fails to make loan repayments and no alternative arrangements can be made the owner keeps the property and does not need to sign over the deeds to the purchaser.
2. Reasonable level of return
If the owner charges an interest rate which is just below or equal to the current mortgage rate then this will provide a reasonable return for the owner. It will be more than what the owner can get in any term deposit and is basically risk free as the owner/vendor still holds the property deeds for the property.
3. The vendor/owner has a bargaining chip not to move on the price of their property
The vendor/owner is providing the finance for the purchase and is only charging a market interest rate, so the purchaser saves time and money by not needing to go through the same due diligence that financial institutions do, plus there won’t be any loan set up fees. This provides the owner/vendor with an upper hand when deciding on the settlement price of the property.
4. Settlement happens quicker
As the vendor/owner is providing the finance means they do not need to wait for the purchaser to organise their finance. Settlement can happen as soon as a price is determined and once each party is happy with the terms and conditions of the vendor finance.
Vendor Finance can be quite useful and effective for both property sellers and purchasers. It is particularly good for property sellers as they find themselves in a position of strong bargaining power. However, many vendor finance deals in the past have not worked out for the purchaser, as often vendors/owners charge an unreasonable interest rate or selling price. We recommend that as a vendor/owner you negotiate and interest rate which allows for the property to be sold for the price you are asking.
Note: We are not providing any financial advice and recommend that property owners and proeprty purchasers seek professional legal advice if they are considering entering into a Vendor/Owner Finance arrangement.
Comments
Bob, Not a bad article. You are right that vendor finance has a bad name. I remember a story which aired on one of those current affair shows about queensland firm who was going around buying up cheap properties around 10 years ago. They were then selling them at 25% more than the market value and paying market valuers to provide inflated market valuations of the property. Some property owners were getting vendor finance and others were borrowing externally.
In the end the company was found out and taken to court by the investors who thought they were taken to the cleaners. The thing is the court cases didn’t happen for another 5 years and in that time the property prices went up a fortune and the investors made money, courts dismissed everything.
These investors were lucky, the point is watch out for these companies who offer these vendor finance options.
T-Bone
02.07.08
9:53 am
There were a lot of these companies who engaged in these shady negotiations with the main goal to “rip off” investors and property owners. Most of these companies have been weeded out by the various Fair Trading Offices and the ACCC. This doesn’t mean there are not still companies like this but it has definitely reduced.
It is important that investors and home buyers do their research prior to entering into any of the agreements. Research the company offering the deal, research the market value of the property (get an individual valuer), research the interest rate they are offering and most importantly have a solicitor look at the contract of sale.
Bob Sacamento
02.07.08
10:06 am
Hi there,
It’s amazing how all the “bad’ stories get all the media publicity and the rest of us in the vendor financing business who just quietly go along our way helping people buy their own homes without having to go to the banks, get no acknowledgement or recognition for the service we provide which benefits both homebuyers and investors.
Why don’t people keep an open mind when they hear these media stories and if they’re concerned do the research on the story! We know how the media lies and twists information-anything to get a story! The badder the better!
In response to T-Bone’s story about that wicked company who was”found out” but because the courts took so long to hear the case, those “poor’ investors MADE money (but they were lucky!!?)….
I don’t know the company you are referring to, but the point to be made here, is that when a vendor finance deal is put into place the price is FIXED. Market values for property are EXPECTED to rise in 4-5 years. All that rise in value above the agreed price belongs to the buyer!
There is a specific legal document used for selling a house on vendor finance and it’s called an instalment contract. It is drawn up by lawyers and consists of a Contract For Sale and a Mortgage Document as the buyers have a P & I loan with the vendor. Both parties require lawyers and contracts are exchanged after both parties sign.
It is all done through lawyers. Unfortunately many lawyers don’t know about it! I recommend you go to http://vendorfinancelawyer.com.au if you’d like to know more about this process.
If I may clarifiy Point#4 in your origiinal post, Bob, you mean possession happens quicker! Settlement doesn’t happen at all as the buyer has a mortgage contract with the vendor and the property won’t actually settle until that mortgage is paid out . That will occur when the buyer either refinances to a bank and pays out their original mortgage totally to the vendor, or sells the house (they do have this right).
Because of this,the buyer’s lawyer takes out a caveat on the property to safeguard their interest.That’s why they need to have a caveat as the title will still remain with the vendor until this happens.
I hope this clarifies the legal issues.
We have a vendor finance business where we help homebuyers who can’t get bank loans buy houses by leveraging off investors who can get bank loans. We do JVs with these investors who finance and hold the title until the new homebuyer can get refinanced by the bank. We do mark up the properties by 20% and the interest rate by 1% and we tell our homebuyers this. They know what we paid for the property. We even tell them that they are being financed by investors who can get a bank loan and who expect a return on their investment.
The new homebuyers are grateful for the opportunity and we work out beforehand exactly what mortgage payments they can afford so they know what price range to look in when they go house hunting. The investors are happy also as they get immediate positive cashflow from their investment.
So it truly is a win-win situation.
All the best,
Tamar Goldstein
http://innovativerealestateinvestments.com – for investors
http://youfindit-wefundit.com – for homebuyers.
Tamar Goldstein
05.07.08
3:44 pm
Tamar: Thanks for your input and in particular for clarifying the legal side of things and correcting my Possession/Settlement error.
I think your business definitely fills a gap in the market and provides a means for those buyers with bad credit rantings to achieve that goal of owning a home.
Just out of interest, do you have many defaults? If someone does default what usually happens then?
Bob Sacamento
07.07.08
8:29 pm
Companies like this are the problem.
The value of the purchaser’s asset is worth less than the amount of money they owe. They are paying an interest rate greater than the market rate. This a recipe for disaster as they have a proven bad record of managing finances.
What happens in the current market when property prices are falling? The value of the asset will reduce even more making it impossible for the purchaser to use the asset as equity to get a loan.
It doesn’t sound like a good deal to me!
T-Bone
08.07.08
7:47 am
You do make a valuable point T-Bone, there is a good chance these property buyers are going to default and in a slowing market their is no way they will be able to build up equity to get their vendor finance loan refinanced.
But a point worth considering is that companies like this do provide a valuable service. They provide a means for people with bad credit ratings to purchase a property. No bank is prepared to lend these people the funds necessary to purchase a property as they are considered to be too risky.
To cover this risk these companies charge a premium on the property value and the higher interest rate. Like all businesses they are only trying to make a buck!
Bob Sacamento
09.07.08
11:31 am
Bob,
I disagree with your statement “To cover this risk these companies charge a premium on the property value and the higher interest rate.” Is there really any risk for them?
They are receiving a monthly loan repayment on the principal at an interest rate greater than the market. They still own the asset so if the vendor defaults on the loan the lender keeps the asset and any payments made by the vendor. There is no risk at all here for the borrower as they have the house as collateral.
The only risk would be if the house wasn’t valued anywhere near what they sold it for. But this will never be the case as they sell it 20% more than market value!
I strongly agree with what you said after this “Like all businesses they are only trying to make a buck!”.
ps. The site is looking great!
T-Bone
11.07.08
7:44 am
T-Bone, you do have a valid point. When you break it down there is probably very little risk for either the financier or this company. However, they fill a gap which is in the market and there are probably very few companies like them. So the old laws of demand and supply come into play meaning they can charge what they like. If there was more competition then they would be forced to offer more attractive loan terms to purchasers/borrowers.
Bob Sacamento
12.07.08
11:36 am
I couldn’t help jumping in on this string and adding my comments. It appears the conversation has drifted away from one of the major points in Bob’s article. That is, Vendor Finance is an option which is available to property sellers. The discussion is looking at it from a buyers point of view and not from a sellers.
For sellers, you have the option to find a buyer and loan them the money to purchase the property. You don’t need to physically give them any money as you own the asset so all they are doing is making a monthly loan repayment to you. You don’t need these 3rd party finance companies to be involved, this is a straight arrangement between you and the purchasers/borrower.
In the current market where properties are not moving and people who would like to purchase a property can’t secure finance from a bank then this is one alternative option available.
Rodney Munch
14.07.08
9:53 am
Sorry Bob-I lost track of your blog but it came up again in my Google Alerts.
I’m glad I could add to your article and clarify the legal position.
With respect to whether we get many defaults and what the position is:
We do get a few – one couple gave us back their house because they separated, another buyer’s income dropped so he had to give the house back-but we don’t get a lot of defaults in proportion to the number we have sold this way.
What happens is they give us the house back and it’s a clean break. Because the sale didn’t settle they don’t get a black mark on their credit report and they don’t owe any money like people who get foreclosed on by banks can.
From our investor’s point of view they still have the original mortgage to pay and we pay half of that until we re-sell the house on vendor finance (if that’s what they want to do). It’s their choice of course-their property- but currently these investors have opted for us to re-sell them on a wrap for them Then when we get a deposit from the new buyers of $12k that covers the mortgage payments made in the interim with the rest being split between us. So no-one is out of pocket. So it is a low risk investment for our investors-is that a bad thing?!
Our buyers are not likely to default. Many of our buyers have just had a simple telco default which puts a black mark on their credit report. We check them out properly, get payslips, credit reports,rent ledgers,etc. They don’t necessarily have a record of bad financial management, and we wouldn’t take them on if they did. Some just haven’t saved enough deposit. We are helping them buy their own home.
It has happened that our homebuyers have bought houses that have gone down in value since because of the slump in property values,in 2003 and thereabouts.However, they’ve hung in there. They wanted to buy a home and they are living in it and happy to be so. They are not thinking like investors-it’s their home. Value fluctuations are all part of the mind-set of investors. These people are just home owners. There is no reactive thought (as there is with investors) to go into a tail spin about property prices going up or down. We all know that property goes in cycles and it will go up again.
It is also suggested to them to look for the worse house in the best street so that they can add value to them.
In fact we now have investors who are negatively geared coming to us asking us to wrap their houses for them-to turn their money-eating houses into money producing houses which we are happy to do.
Of course as Rodney correctly points out investors can vendor finance their houses themselves. However they need to understand what they are doing and know how to market them. It’s our expertise that is valuable.
We are not a 3rd party finance company as such by the way. We just help property investors who want positive cashflow to get that and we help homebuyers who can’t get bank loans get into their own homes. It’s as simple as that.
Tamar
PS There are quite a lot of “wrappers” in business.
Tamar Goldstein
07.08.08
8:21 pm
Tamar,
Thanks for your input and insights in regard to vendor finance. It appears you are fulfilling a vital role within the industry and offer a valuable service to both property buyers and investors.
Bob Sacamento
08.08.08
7:48 am