Pros of selling property with owner financing
Spread out capital gains taxes over time
The sale of property can trigger depreciation recapture and capital gains tax, which is a tax on the gains made between the basis, or initial cost of your property, plus improvements in relation to the sales price. For example, if you bought a rental property for $110,000 and sold it 10 years later for $180,000 you would be subject to a $70,000 capital gains tax.
As a real estate investor, the biggest advantage of selling property with owner financing is that you can reduce the capital gains tax hit you would take over time.
Since the property is being sold with financing, the repayment of the loan is made in installments over time, which spreads the gain over a period of years. By financing a property for a period of 10 years, you turn your one-time tax hit of $70,000 into a capital gain of $7,000 per year over 10 years.
If you are selling your home, there is a $250,000 exclusion as long as the property was lived in as a primary residence for two out of the past five years. However, if the capital gains you would pay on the property exceeds that exclusion, it may still be beneficial to offer owner financing in order to break up the tax hit over a period of time.
Earn passive income
Another benefit of offering owner financing is that you create a source of cash flow or passive income. If you’re a real estate investor who has relied on passive income from rentals but is now ready to retire, selling your investment properties with owner financing can be a great way to continue receiving passive income without having to own, maintain, or manage the properties.
There is typically very little involved with owning a mortgage, especially if you use a third-party servicing company to help collect payments, send monthly mortgage statements to the homeowner, and keep records of the payments collected and the balance owed for a small monthly fee. A servicing company makes this a much more hands-off investment that earns passive income.
Create your own terms
When you offer owner financing, you have the ability to create your own terms. You aren't restricted to the traditional mortgage terms offering a competitive, low interest rate for 30 years.
As long as you remain compliant with the Dodd-Frank Act and your state’s usury laws, you can charge a slightly higher interest rate or have a balloon payment, both of which increase your return on investment. With owner financing deals, you have the freedom to negotiate and create terms that provide you with your desired return and also make sense for the buyer.