What Is a Purchase Money Loan?
Updated: Jan 29
A purchase money loan can refer to a mortgage provided by a bank, credit union or mortgage company, or issued or guaranteed by a government agency. Usually, however, the term refers to a loan provided by the home seller.
Seller Financing For homebuyers who don’t meet a mortgage lender’s requirements, obtaining financing through the seller may be an option. If the house is paid off, the seller and buyer can negotiate the terms of a purchase money loan, including the length, monthly payment, interest rate and down payment. A security instrument is usually recorded in public records in case a dispute arises.
A seller negotiating a purchase money loan may be more flexible than a financial institution would be. A seller may agree to an interest-only or less-than-interest loan with a balloon payment and may allow the buyer to make the down payment in installments. Since a buyer usually only seeks a purchase money loan as a last resort, the seller may charge a higher interest rate than a financial institution would or raise the purchase price.
Because there’s no financial institution involved in the transaction, the parties can often close the deal faster than they otherwise would. Closing costs are usually lower with a purchase money loan than with a typical mortgage.
Sometimes a buyer uses a purchase money loan to take over the current owner’s mortgage. In that situation, the difference between the balance on the existing mortgage and the sale price is financed by the seller. The purchase money mortgage is considered a second mortgage and the original loan must be paid off first.
A seller may offer a purchase money loan to attract a buyer if there are more houses for sale than buyers or if the owner needs to sell quickly. A seller may get full list price or more and may pay lower taxes if the sale is completed in installments. The seller can also benefit from monthly income and a high interest rate.
In a land sale, the parties enter a lease-purchase agreement in which the seller gives the buyer equitable title and leases the property to the buyer. After the agreement has been fulfilled, the buyer receives the title and rental payments are credited toward the purchase price. The buyer can then obtain a loan to pay the seller.
Other Types of Purchase Money Loans A conventional purchase money loan can be issued by a bank or mortgage lender. A lender may loan up to 20 percent of the sale price as a second mortgage to cover a shortfall if the amount approved for a first mortgage isn’t enough to buy a desired house. The Federal Housing Administration and U.S. Department of Veterans Affairs offer government-backed purchase money loans.
Many Ways to Buy a Home You have numerous options to achieve your dream of homeownership. If things haven’t worked out with a conventional lender or government agency, financing a home purchase through the seller may be an avenue worth exploring.
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