I have a rental home that I own outright. I rented to a family that went bankrupt but had a relative with good credit cosign the lease. They’ve made every payment on time and have just renewed for another year. The issue is that they’d like to buy the house but have no way of getting a loan. The guy is working again and has a 20% down payment. I’m willing to do an owner finance for 3 years but I’m not sure what interest rate to charge. Is there a rule of thumb that I should use? Any other pitfalls to be aware of? --Thanks!
20% is darn good now a days especially if you ever want to sell the Note. My rule of thumb on interest rate is 2% over the going conventional mortgage rate for like a 750 credit score then raise it for for lower scores, example 700 credit might be a 2.5 - 3.0% over conventional and so on. Ultimately its up to you. Herbster
At the end of the lease term it will have been two years since bankruptcy. I bet your tenant would be able to get FHA 96.5% financing at that time.
Since you own the home free and clear, and you have renewed the rental agreement for another year, you don’t seem to be in any hurry to cash out your equity.
If you decide to owner finance and the seller has a 20% downpayment, why give the buyer a three year balloon? Why not make this property cash flow for the next 30+ years with none of the landlord headaches that accompany rental property management. Chances are the buyer will either sell or refinance the property within seven years, so why not keep collecting the interest on your seller held note as long as you can?
Set the interest rate at 8% fixed for the life of the loan. Make the buyer’s monthly loan payment about 25% of the buyer’s gross monthly income, then set the loan term for whatever length of time is needed to fully amortize the loan at the interest rate and payment amount set for your loan. Add in an insurance and property tax escrow.
Hire a professional loan servicing company to collect your payments, disburse the funds, and manage the escrow account. The servicing company will also send out the year end tax statements to you, to your buyer, and to the IRS.
Dave, Didn’t you used to be a Note investor/broker? I agree with your reply and if the buyers do move on in seven years it takes care of the TVM most don’t consider. Thanks, Herbster
Great information–thanks!
So I’ve scanned the forums and the web to try and get my arms around what makes a note attractive to a note buyer a few years down the road, and its still pretty unclear.
Say the guy puts down 10% and the loan amount is 250K. 8% interest over 30 years gives him a month PI of $1834. (Not sure if that’s relevant).
After 3 years, the balance of the loan is $242,120. If I sold that note, how much would it go for and why, assuming the guy’s credit was good and there were no payment issues or anything like that.
Thanks again for the help!
2bFree,
I think you are getting too far ahead of yourself.
If the guy’s credit is good and has a perfect payment history, the guy will refinance the note to lower his interest rate and monthly payment long before three years is up.
If your tenant wants to buy the house at the end of his next lease term, he should be able to get FHA financing and you won’t have to worry about discounting the note for sale.
herbster,
No I am not a note broker and have never been one, even on TV. I do have a property in NC that I am trying to sell and what I outlined is what I am considering if I decide to owner finance. I want to get my money working for me for the maximum length of time possible. I might even consider an interest only loan for ten years, then recast it as a 20 year amortizing loan. That way, the entire principal balance is “earning” 8% interest for ten years.
Dave: I see and understand your game plan. Yes holding a Note is a good investment. I used to broker Notes but it wasn’t worth my effort.
2bFree: I could take a stab at what would make a valueable Note but you are better off asking the Note investors yourself. I do know a couple things though and the Note discount is greater than it used to be, and did you know you could sell just part of it. Herbster
Depends upon the yield the notebuyer needs. Since you plan to have the note balloon at the end of three years and if the notebuyer’s required yield is 18%, then a notebuyer would not give you more than $195200 if you sold the note when it was created.
Since your guy has a recent bankruptcy, and his FICO might put him in the sub-prime category, the note buyer may not settle for less than a 30% yield which would require you to discount the note to around $150000.
Dave- you said that the renter could probably get into FHA with a bankruptcy as recent as 2 years? I’m just kind of surprised to hear that, can you elaborate or can someone else corroborate?
http://www.fhaloanpros.com/fha-guidelines/
http://www.fha-mortgageunderwriters.com/
With re-established credit, applicants who are still paying on a Chapter 13 bankruptcy filing are eligible after one year and those who filed Chapter 7 are eligible after two years.
Bankruptcy stays on your credit report for ten years, foreclosure is removed after seven years. I think it is curious that FHA loan eligibility can be restored within two years after a bankruptcy but it takes three years after a foreclosure.
Conventional financing has gone to five years with a foreclosure. Which seems a bit absurd to me with all of the foreclosures happening these days. Talk about suppresing the market.
Who actually makes the “rules” for the length of time items stay on your credit report?
Thanks for the links Dave!