Seller Financing Rules: Dodd-Frank, the SAFE Act and State Law
The seller financing rules that matter depend on three things: what you are selling, who is buying, and how many deals you do. If you finance a home for a buyer who will live in it, federal rules from Dodd-Frank apply, but an individual who finances only one property in 12 months can use a simple exclusion that even allows a balloon (12 CFR 1026.36(a)(5)). If you sell a rental, a commercial building, business land or a business to an investor, the federal consumer lending rules generally do not apply at all, because that is business-purpose credit (12 CFR 1026.3(a)).
Below: the federal layers (Regulation Z, the SAFE Act, RESPA), state law, and a decision table. This is an overview, not legal advice; have a real estate attorney in your state draft the note and deed of trust. Start with our seller financing guide for the whole topic.
Is seller financing legal?
Yes, in every state. The 2010 Dodd-Frank Act added federal rules for people who originate home loans, and the Consumer Financial Protection Bureau (CFPB) wrote them into Regulation Z. Those rules reach sellers only when the loan is consumer credit secured by a dwelling. A consumer loan is "credit offered or extended to a consumer primarily for personal, family, or household purposes" (12 CFR 1026.2(a)(12)).
So the first question is always: is this a home for someone to live in, or is it a business deal?
Business-purpose sales: mostly outside the federal rules
Regulation Z exempts "an extension of credit primarily for a business, commercial or agricultural purpose," and credit to anyone other than a natural person (12 CFR 1026.3(a)). The official commentary adds that credit to buy rental property the buyer will not occupy is deemed business-purpose, regardless of the number of units.
So a rental sold to an investor who will not live there, a commercial building, business land, a business sale, or any sale to an LLC or corporation is generally outside Regulation Z. RESPA's Regulation X uses the same business-purpose exemption (12 CFR 1024.5(b)(2)). State usury, disclosure and foreclosure law still apply. And watch the edge case: if an investor buys a 2 to 4 unit building and moves into one unit, the commentary treats that differently, so ask your attorney.
The owner-occupied home: where the rules bite
When the buyer will live in the property, three federal questions follow.
1. Are you a "creditor"?
Regulation Z's heavy obligations fall on a "creditor." For loans secured by a dwelling, you regularly extend credit, and so become a creditor, only if you extended that kind of credit more than 5 times in the preceding calendar year (if you did not meet the test last year, the current year counts). You are also a creditor if you originate more than one high-cost mortgage in any 12-month period, or even one through a mortgage broker (12 CFR 1026.2(a)(17)(v)).
Most sellers who carry back one note on a house they owned are not creditors. If you are one, the full rulebook applies:
- TILA-RESPA disclosures: the Loan Estimate and Closing Disclosure (12 CFR 1026.19(e), (f)).
- Ability to repay: a creditor may not make a covered dwelling loan without "a reasonable and good faith determination at or before consummation that the consumer will have a reasonable ability to repay" (12 CFR 1026.43(c)(1)).
- High-cost mortgage (HOEPA) rules if the rate or fees cross the triggers (12 CFR 1026.32), and escrow and appraisal rules for higher-priced loans (12 CFR 1026.35).
2. Are you a "loan originator"? The seller financer exclusions
Separately from the creditor test, Dodd-Frank's loan originator rules (12 CFR 1026.36) cover anyone who, for compensation, arranges, offers, negotiates or makes consumer credit secured by a dwelling. Sellers get two exclusions (12 CFR 1026.36(a)(4) and (a)(5)). Meet every condition of one, and you are not a loan originator.
| Condition | One-property exclusion, §1026.36(a)(5) | Three-property exclusion, §1026.36(a)(4) |
|---|---|---|
| Who can use it | A natural person, estate or trust | Any "person," including an LLC or corporation (§1026.2(a)(22)) |
| How many | Only one property in any 12-month period | Three or fewer properties in any 12-month period |
| Your own property | Yes, owned by you and securing the financing | Yes, owned by you and securing the financing |
| Built it? | You did not construct, or act as contractor for, a residence on it in the ordinary course of business | Same |
| Amortization | No negative amortization; a balloon is allowed | Fully amortizing; no balloon |
| Ability to repay | No determination required by the exclusion | You determine in good faith that the buyer can reasonably repay |
| Rate | Fixed, or adjustable only after 5 or more years with reasonable annual and lifetime caps | Same |
Dodd-Frank and balloon payments
A balloon is allowed under the one-property exclusion because the only amortization condition is no negative amortization. A balloon is not allowed under the three-property exclusion, which requires fully amortizing financing. If you sell a second financed home within 12 months, or you hold title in an LLC, you are on the three-property track, and the balloon is out. See seller financing balloon payments.
Simple example. A couple owns their former home, titled in their own names, and sells it to a family who will live in it for $375,000: $75,000 down and a $300,000 note at 7%, payments on a 30-year schedule of $1,995.91 a month.
| Version | Balloon? | Which exclusion can fit |
|---|---|---|
| All due at year 7 (balance then about $273,442) | Yes | One-property only, if this is their only seller-financed property in 12 months |
| Fully amortizing over 30 years ($1,995.91 a month) | No | Either; the three-property track also needs a good-faith ability-to-repay review |
| Fully amortizing over 15 years ($2,696.48 a month) | No | Either, same condition |
If they had titled the house in an LLC, only the three-property exclusion would be available, so the 7-year balloon would not fit. The payment math is easy to check in the owner financing calculator.
3. Do you need a mortgage loan originator license? The SAFE Act
The SAFE Act (12 U.S.C. 5101 et seq.) requires individuals who are "engaged in the business" of loan origination to be state-licensed or federally registered. The CFPB implements it through Regulation G (12 CFR part 1007, employees of federally regulated institutions) and Regulation H (12 CFR part 1008, state licensing). HUD first issued these interpretations as 24 CFR part 3400 in 2011; that authority moved to the CFPB under Dodd-Frank.
Regulation H, Appendix B, gives examples of people who generally are not engaged in the business (12 CFR part 1008, App. B):
- An individual who provides financing for the sale of that individual's own residence, unless done "so frequently and under such circumstances that it constitutes a habitual and commercial activity."
- An individual who finances the sale of a property owned by that individual, provided they do not do it with habitualness.
- A parent who provides loan financing to his or her child.
States write their own licensing statutes with their own exemptions, so check yours.
RESPA and servicing rules
RESPA applies to "federally related mortgage loans." A private seller's loan usually is not one, because that definition centers on lenders that are federally regulated or insured, loans sold to Fannie Mae or Freddie Mac, federal programs, and creditors that make or invest in more than $1,000,000 of residential real estate loans a year (12 CFR 1024.2). Business-purpose loans are exempt as well. More on the servicing side in seller financing loan servicing.
State law: disclosures, contracts for deed, foreclosure
Federal rules are the floor. States add their own.
California. In a purchase of a dwelling for not more than four families that includes credit from the seller and involves an arranger of credit (typically a real estate licensee or other compensated person who negotiates the credit terms), a written seller financing disclosure is required to both buyer and seller (Civ. Code §2956; definitions in §2957). It must be delivered before the note is signed (§2959) and covers the note terms, any senior liens, a warning that refinancing a balloon may be difficult or impossible, negative amortization if possible, and more (§2963). For a balloon note longer than one year, the holder must send a notice 90 to 150 days before the balloon is due (§2966). The disclosure is not required when the buyer receives TILA or RESPA disclosures instead (§2958). California also bars deficiency judgments on seller carry-back deeds of trust (Code Civ. Proc. §580b).
Texas. Texas regulates executory contracts (contracts for deed) on property used as the buyer's residence in Property Code chapter 5, subchapter D (§5.062). The seller must give notice and a 30-day cure period before forfeiture (§5.064), and once the buyer has paid 40% of the amount due or the equivalent of 48 monthly payments, the seller must use a trustee's sale instead (§5.066). The subchapter has other buyer protections as well. See contract for deed.
Everywhere else. Usury limits, disclosure forms, contract-for-deed rules, foreclosure procedure and loan originator licensing all vary. If you have your own mortgage on the property, a due-on-sale clause is a separate issue with your lender.
Decision table: which rules apply to you
Rough guide only; each row assumes the note is secured by the property and you are selling property you own.
| Property | Buyer | Your deals | Federal consumer rules | Likely path |
|---|---|---|---|---|
| Home, buyer will live in it | Individual | 1 in 12 months, you are an individual, estate or trust | Reg Z applies to the loan; you are likely not a creditor | One-property exclusion; balloon allowed; no negative amortization |
| Home, buyer will live in it | Individual | 2 or 3 in 12 months, or you hold title in an entity | Same | Three-property exclusion; fully amortizing, good-faith ability-to-repay review |
| Home, buyer will live in it | Individual | 4 or more in 12 months | Outside both seller exclusions | Loan originator rules can apply; state licensing likely |
| Home, buyer will live in it | Individual | More than 5 dwelling-secured loans last calendar year | You are a creditor | TILA disclosures, ability to repay, HOEPA if high-cost, loan originator rules |
| Rental or investment property | Investor who will not live there | Any | Generally none (business purpose) | State law only |
| Commercial property, business land, farm business | Individual or entity | Any | Generally none (business purpose) | State law only |
| A business (stock or assets) | Individual or entity | Any | Generally none | State law, plus the purchase agreement |
| Any property | LLC or corporation | Any | Generally none (credit to other than a natural person) | State law only |
Getting the installment tax treatment without becoming the lender
All of this exists because, in seller financing, you are the lender. Most sellers take that role for installment treatment under §453: gain taxed as it is paid.
A structured installment sale gets the same §453 treatment with the lending role removed. The buyer pays the full price at closing with an ordinary bank loan, so the bank is the creditor, runs the disclosures and the ability-to-repay review, and carries the regulatory load. You receive your payments from an assignment company on a schedule you choose before closing. There is no note for Regulation Z to analyze, no balloon limit to plan around, no licensing question, no default, no foreclosure and no servicing, and no early payoff that dumps the rest of the deferred gain into one year.
| Seller note | Structured installment sale | |
|---|---|---|
| Who is the lender to the buyer | You | The buyer's bank |
| Dodd-Frank, SAFE Act, state lending rules | Can apply to you on a home sale | Apply to the buyer's bank, not to you |
| What backs the payments | The buyer's promise, secured by a deed of trust or mortgage on the property you sold | The assignment company's promise, funded by an annuity it owns. You hold no lien on the annuity or the building. |
| Rate | Usually higher (7% in our examples) | Usually lower (4.5% illustrative; actual payout rates are set when the structure is funded and reflect the commission built into pricing) |
| Flexibility | Can be renegotiated or sold (a sale triggers the deferred gain under §453B) | Cannot be changed, sold or pledged |
| Buyer default and early payoff | Your risk | No buyer after closing |
Seller financing still fits some deals: a buyer you know, a big down payment, a note you may want to renegotiate, or a buyer who truly cannot get a bank loan.
What to know before you choose it. It has to be set up before closing; a note you already hold cannot be converted. The payments are locked in: you can't speed them up, borrow against them, pledge them or cash them out, and that is what keeps the deferral intact. There is no free look after closing: once the sale closes, the structure cannot be undone. The payments depend on the assignment company's ability to pay. The structure rests on settled installment-sale law, but this specific assignment structure has no published IRS ruling, so have your CPA or tax attorney review the documents. A commission is built into the pricing: Hans is paid about 2.4% of the amount structured, only if a structured sale is funded; seller financing pays him nothing (see the disclosures).
Use the seller financing calculator to compare your note with the same schedule paid by a structured sale, or see seller financing vs a structured sale.
Bottom line
Seller financing is legal everywhere. On a business-purpose sale (a rental to an investor, commercial property, a business, an entity buyer) the federal consumer lending rules generally stay out and state law governs. On a home sold to someone who will live in it, Regulation Z applies: one property in 12 months by an individual allows a balloon; two or three, or an entity seller, means fully amortizing loans and a good-faith ability-to-repay review; more than five dwelling loans in a year makes you a creditor. The SAFE Act generally leaves occasional sellers of their own property unlicensed. Your state adds its own layer. This is not legal advice: have a real estate attorney draft the note and deed of trust.
Questions to ask your CPA or attorney
- Is this loan consumer credit or business-purpose credit, given how the buyer will use the property?
- How many dwelling-secured loans have I made this year and last year, counting any entity I control?
- Which seller financer exclusion fits my note, and does my balloon or rate structure break it?
- Does my state require a seller financing disclosure, a license, or special contract-for-deed terms?
- Does my own mortgage have a due-on-sale clause that this sale would trigger?
- Does the note's rate meet the applicable federal rate for tax purposes (§§483, 1274)? See seller financing interest rates and the AFR.
Run your own numbers. Compare a cash sale, seller financing and a structured installment sale side by side, free.
Educational only, not tax, legal or investment advice. Examples are illustrative. Have your CPA or tax attorney review your facts before you act. Hans Goldstein is a licensed insurance agent (CA Insurance License #4273294) and is not a CPA or attorney. He is paid a commission only if a structured installment sale is funded; seller financing pays him nothing. Disclosures.