Nolo's Essential Guide to Buying Your First Home (32 page)

• gifts or loans from family members and friends

• financing directly from your house’s seller

• low-down payment loan programs available through federal, state, and local agencies, and

• special financing options available for new homes, such as direct financing from developers (buydowns).

• different ways to structure a loan from family or friends

• the benefits for borrower and lender

• how to raise the issue with your family member or friend, and

• dealing with the legal and tax issues concerning private financing.

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Down payment.
An intrafamily loan can be helpful if you’re short on cash and want to avoid paying for private mortgage insurance (PMI), but can save up to pay back your private lender over time or when the house is sold.

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First mortgage.
You could sidestep the traditional lending industry and finance your entire purchase price with a mortgage loan from your relatives, friends, or others.

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Second mortgage.
A private loan may also be used to supplement a bank mortgage. How is that different from a down payment loan? Your private lender records the mortgage publicly, putting themselves in line behind the bank for repayment if the house is foreclosed on—a good way to protect the private lender. It’s unwise to forgo this step unless the loan is relatively small (less than $10,000), for the reasons discussed below.

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Interest savings and tax deductions.
Family and friends often charge 1½% to 2% interest points less than conventional lenders, resulting in thousands of dollars in interest savings over the life of the loan. And if you document the loan properly (as we describe below), you can usually deduct the mortgage interest charged on your taxes, just as with a traditional mortgage.

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Flexible repayment structures.
While a bank is probably going to require an unchanging monthly payment schedule, a private mortgage holder might be more flexible. For example, you may mutually agree that you’ll make quarterly (not monthly) payments or delay all payments for the first few years. And if down the road you want to temporarily pause payments (perhaps to take unpaid leave from work after the birth of your first child), your parents or other private lender may agree to that. Good luck finding such a flexible institutional lender.

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No points or loan fees.
Institutional lenders often charge thousands of dollars in loan application and other fees. Family and friends don’t.

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Easier qualifying.
Your relatives or friends probably won’t require that you have a great credit score. You qualify as long as your lender trusts that you’ll pay back the loan.

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Saving on private mortgage insurance.
If you borrow more than 80% of the house purchase price from an institutional lender, you’ll have to pay PMI. By borrowing privately, you can avoid this cost.

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Minimal red tape.
To borrow from an institutional lender, you must fill out an application form and provide documentation verifying every item on the form, then wait for approval. Friends and family don’t usually adopt this level of scrutiny.

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Better deal on the house.
If you’ve arranged private financing in advance and can close quickly, sellers who are time pressured may accept a slightly lower offer.

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No lender-required approval of house’s physical condition.
Private lenders don’t usually require that a house’s major defects be repaired before closing, as institutional lenders do. That would let you buy a fixer-upper and take care of its defects later. (Of course, you should still have the house professionally inspected.)