Owner Financing: How To Buy A Business Without A Lender

Owner Financing: How To Buy A Business Without A Lender
Eric Goldschein
on March 16, 2020
Read in 4 min

If you want to buy a business, but don’t have the seller’s asking price laying around your house in cash, you may want to consider owner financing as an alternative.

Also known as seller financing, owner financing is the process by which a property or business buyer finances their purchase directly through the person or entity selling it, rather than through a traditional bank loan or other lenders.

Though unconventional, owner financing can benefit both the buyer and seller, depending on the circumstances and details of the deal.

Let’s review how owner financing works for both parties and why you may want to explore this option rather than going through the process of obtaining an acquisition loan.

What is Owner Financing?

Owner financing cuts out the typical middle man that is a mortgage lender and gives the seller the role of the lender.

Instead of lending cash to the buyer, however, the seller simply allows the buyer to make payments directly to them over time.

It’s up to the seller and the buyer (and perhaps their business attorneys) to negotiate the terms of the sale and payment schedule.

Usually, the buyer will sign a promissory note to the seller, which will list the details of the repayment plan, including the interest rate and consequences of defaulting on the “loan.”

Unlike repayment plans set up by traditional lenders like banks, owner financing deals are typically 5-10 year deals, as it’s not in the interest of the seller to wait 30 years to sell their business.

How does owner financing work?

The great thing about buying a business through seller financing is that it puts the buyer and seller in the driver’s seat of the transaction.

A middleman like a bank or online lender might be the best option if the two parties are completely unfamiliar with each other and no one wants to assume the risk.

However, if both the owner and buyer are comfortable with an owner-financed sale, it can pay massive financial dividends for all involved.

Owner Financing Benefits the Buyer

There are a number of ways that buyers benefit from an owner-financed deal.

First, it’s likely that the buyer went to a bank or even an online lender for the funds to buy the business, but wasn’t able to obtain financing due to issues like a lack of assets for collateral or limited credit history.

But the only person who needs to okay the loan in this instance is the seller – if they’re satisfied with the buyer’s credit score and assets, they can agree to the loan and keep things moving.

Second, the closing process is faster and cheaper for the buyer.

There are no origination, processing, or administration fees that a lender might levy against the buyer, reducing closing costs; and because there’s no waiting on the financing to go through, buyers can move ahead and obtain the business faster than they could otherwise.

Finally, the financial details are highly negotiable and can be tailored to be advantageous for both parties.

Buyers can work to create a repayment schedule that works best for them.

Owner Financing Benefits the Seller

If the seller is having a hard time offloading their business, this option also offers them a number of benefits.

One major advantage is the ability to dictate a higher sales price and interest rate:

The seller can ask for a higher sale price, or better interest rate, and receive both, since the buyer will also be saving money on closing costs.

Another is tax breaks:

The seller will likely pay less in taxes on an installment sale than they would selling everything outright, since they’ll only need to report the income they receive each year.

Additionally, sellers receive a monthly income from the buyer, and the interest rate they secure from the buyer will likely be higher than any other investment they could have made.

Finally, if the seller likes, they can sell the business “as is” without making major improvements.

If that’s the case, both parties should agree to this, and the buyer needs to review the property extensively to make sure they know what they’re buying.

What are the drawbacks of owner financing?

Again, the terms of an owner-financed deal are negotiable, so hopefully both parties agree to a deal that is a win-win.

For the buyer, one downside could be that the seller requests that high interest rate, or a large downpayment, to protect their investment.

For the seller, recognize that you will continue to be tied to your business for a significant amount of time after the sale is agreed to, and you’ll have a vested interest in the buyer’s business doing well.

If the buyer fails, the seller will likely lose out on interest income, and will need to spend time collecting the debt.

Other details to keep in mind with owner financing/seller financing

An owner-financed deal is still a deal, and an important and costly investment for the seller and the buyer alike.

As a result, it’s recommended that both parties enlist professional legal help to navigate the financial hurdles and implications, and ensure that proper insurance has been obtained.

For the seller, it’s important to do due diligence on a buyer’s credit history and other factors, and not let them skate by because they’re willing to pay a higher interest rate or down payment.

And for the buyer: Don’t necessarily put all your eggs in one basket.

You can obtain some of your financing for this purchase from a bank loan, and get the rest of the financing from the seller.

In fact, it’s not typical for a seller to finance the entirety of the loan.

They usually finance between 20 and 50 percent, unless they are doing you a favor as a trusted family member, friend, or long-time renter.

So, consider owner financing as just one piece of the larger puzzle – a piece that will offer you the opportunity to buy the business faster, more cheaply, and without tying up your assets the way a traditional lender would.

Still need a small business loan, business line of credit, or microloan to expand your business?

You’re welcome to check out our full list of comprehensive lender reviews here:

Online Lender Reviews

Each of these online lenders has different strengths, weaknesses, and specific underwriting criteria.

You’ll probably want to compare them to make sure you don’t get taken advantage of on interest rates or repayment terms.

If you want an even easier way to shop for small business loans, give our free loan comparison tool a try:

Funding OptionsAPRDo you qualify?Time in BusinessAnnual Revenue
Funding Option
OnDeck Term Loan Get Started
APR
9%-50%
Estimated Apr
Do you qualify?
550
MIN CREDIT SCORE
Time in Business
At least 1 year
Annual Revenue
At least $192K
Funding Option
Lendistry Term Get Started
APR
10%-27%
Estimated Apr
Do you qualify?
600+
MIN CREDIT SCORE
Time in Business
At least 2 years
Annual Revenue
No minimum
Funding Option
Lendistry SBA Get Started
APR
6%-10.25%
Estimated Apr
Do you qualify?
600+
MIN CREDIT SCORE
Time in Business
At least 1 year
Annual Revenue
At least $150K
Funding Option
Credibly Business Expansion Get Started
APR
9.99%-36%
Estimated Apr
Do you qualify?
600+
MIN CREDIT SCORE
Time in Business
At least 2 years
Annual Revenue
No minimum

 

Eric Goldschein Finance Journalist

Eric Goldschein is a freelance journalist who covers entrepreneurship, small business trends, emerging technologies, culture and sports.

He was previously the managing editor of SportsGrid.com, and has written for Business Insider, Trep Life, the Huffington Post, Fundera and more.
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