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- What Are Netting Escrows & How Does It Work?: The Best Guide - January 2, 2024
- The Secret About Prescriptive Easement: Top Guide 1 Must Know - December 4, 2023
- About Home Equity Loans In Texas And How Can One Obtain It - November 27, 2023
Introduction To Purchase Money Mortgage
What happens when you are unable to qualify for a traditional mortgage while buying a new home due to poor credit or high debt to income?
Well, there is an option where a buyer can get a purchase money mortgage to purchase the property. In this post, we will understand what is a purchase money mortgage in detail.
Purchase Money Mortgage Definition:
Also known as owner or seller financing, a purchase money loan is a type of mortgage where the borrower gets finance from the seller instead of a traditional mortgage lender to purchase a property.
The purchase money mortgage is usually taken by the borrowers who are unable to qualify for a standard mortgage through traditional mortgage lenders through conventional or other government programs.
This is a good option for borrowers with bad credit or high debt-to-income ratios. There are different types of purchase mortgage loans depending on the purchase transaction.
What Are The Types Of Purchase Money Mortgages?
There are three types of purchase money mortgages.
I - Land Contract:
The land contract is one of the popular types of seller financing for homebuyers who are unable to qualify for standard mortgages at the moment, however, plan to be able to qualify in the coming future.
In a land contract, the homebuyer makes payments to the seller monthly for the period agreed in the contract post which there is a balloon payment towards the end of the contract.
To get the title of the property the buyer either needs to make the complete payment of the loan in the given time either through balloon payment through cash or by refinancing.
This is a good option for buyers who are building their credit and want to qualify for a traditional mortgage in the future.
If the homebuyer is unable to make the payments according to the contract, the seller has the right to cancel the contract and sell the property to someone else.
This will cause the buyer to lose all the investment he or she has made till the time.
II - Lease Option Agreement:
A lease option agreement is a type of seller financing where the buyer signs an agreement with the buyer to lease the property till they decide to purchase it just before the agreement ends.
In a lease option agreement, the buyer and seller decide what is the least amount going to be for the property for the set period along with the additional payment that the buyer will be making as a down payment to the seller.
Thirty days before the contract ends, the buyer can negotiate the term of the contract stating whether or not he/she is going to purchase the property, wants to extend the contract, or wants to back out of the contract.
This is one of the best options for buyers who are uncertain if they can qualify for a traditional mortgage in the future or if the real estate market is going to change.
III - Lease-Purchase Agreement:
Just like a lease option agreement this type of seller financing includes both buyer and seller signing the contract to lease the property till the lease agreement expires.
The only difference is that, once the agreement expires, the buyer would not be able to negotiate the term of the contract.
No matter what the situation is the buyer needs to either get traditional financing or come up with a balloon payment to purchase the property.
Failing to do so, the buyer will lose the amount that he/she has invested during the lease agreement period and the seller can resell the property in the open market.
What Are The Pros And Cons Of Purchase Money Mortgages?
Pros:
- If you are a borrower who has tried to get a traditional mortgage from a lender due to bad credit or a high debt-to-income ratio, this type of seller financing is one of the best options to get into homeownership.
- This type of financing usually comes with lower closing costs as there are no processing fees and other fees which are charged by the traditional lender. The seller will only ask for fees that are incurred for the transaction like making a deed, updating county records, appraisals, etc.
- Since there are no guidelines for seller financing, the payment and down payment terms are more flexible.
- Unlike a traditional mortgage, in a purchase money loan, there is less paperwork and a short process. Hence the closing of the transaction happens much faster compared to traditional mortgages.
Cons:
- In most the seller financing types the borrower needs to come up with a balloon payment at the end of the contract. This means the buyer has to either secure a mortgage from a lender or come up with the cash to be able to purchase the property.
- If the buyer is unable to fulfill the agreement, the seller has the right to foreclose on the property similar to what a bank would do if the borrower defaults on the mortgage payment.
- The interest rate and the mortgage payments in seller financing are higher compared to any traditional mortgage. If you have assumed the seller mortgage and also got owner financing, you might have to make two different payments that could go beyond your budget.
Conclusion
This is one of the best options for the borrowers who know that they are unable to qualify for a traditional mortgage for now, however, would be able to do so in the coming few years.
As there are benefits, there are risks involved in getting a purchase money loan to buy a property.
If you are in a situation where you need to get this type of financing, make sure you check if the title of the property is clear, there are no liens on the property, and you are sure of getting a mortgage in the coming few years.
