Traditional Versus Non-Traditional Home Financing

When purchasing a home, the majority of buyers choose traditional financing, as it’s the fastest and easiest way to home ownership. Some families find it difficult to qualify for a traditional loan, however, and choose to explore other options.

For buyers who have credit issues or are unable to verify adequate income, non-traditional home financing has emerged to fill the gap.

Traditional home lending is provided by a financial institution. Each lender offers programs that assist buyers with varying qualifications in obtaining financing. Buyers work with lenders to make prudent decisions about the best-suited programs.

When buyers cannot meet requirements for traditional mortgages, they can either make the appropriate adjustments or look for alternative lending methods.   Some examples of non-traditional arrangements are listed below:

Rent to own provides an agreement between the buyer and seller for the future purchase of the home. The price and time frame are established at the time of the rental agreement. The buyer must qualify for a traditional mortgage within the timeframe, typically one to five years. A portion of the agreed-upon rent goes into an escrow account and will count towards the buyer’s down payment.

• Advantages: The advantage of rent to own is that the buyers can move into the home while making corrections to their credit or income, giving them time to qualify for a loan.

• Disadvantages: A premium is paid on the rent, meaning rent is higher than it would ordinarily be. This approach also requires a non-refundable option fee, which can be several thousand dollars. If for any reason the buyer cannot purchase the home, the seller keeps the option fee.

Owner Financing is a limited market. Mortgages include a clause that prevents the sale of a home without a loan payoff. As a result, the owner must own the home outright in order to offer owner financing.

• Advantages: An owner may provide greater flexibility. The seller will not conduct extensive underwriting and may be more flexible with terms.

• Disadvantages: To protect themselves, owners require a large down payment that could range from 20% to 50% of the sale price. The other caveat is that the seller typically wants a short-term loan, which takes the form of a balloon payment. This means the buyer makes payments to the seller for a specified period of time, after which the loan must be paid off or financed through traditional means.