What a Purchase Money Mortgage Actually Is
A purchase money mortgage is exactly what the name suggests: the borrowed money buys the property, and the property secures the loan. The distinction isn’t about the lender. It’s about timing and purpose. The financing and the purchase close together, and the mortgage lien is recorded against the title the moment the buyer takes ownership.
That single detail matters more than most buyers realise. Because the loan is tied directly to the acquisition, a purchase money mortgage often gets priority over claims that show up later, including certain judgment liens. In a handful of states, it also carries anti-deficiency protection, meaning a lender who forecloses generally cannot chase the borrower for the shortfall afterward.
Two very different arrangements share the label. A seller can carry the note. A third-party lender can fund it as a first or second mortgage at the closing table. Both are purchase money mortgages.
The Two Main Forms
Seller carry-back
The seller becomes the bank for part or all of the price. Say a house sells for $340,000. The buyer puts down $60,000 and the seller takes back a $280,000 note at 7% interest, amortised over 30 years with a balloon due in five. The buyer gets a home without convincing an underwriter. The seller gets monthly income and, usually, a higher price than a cash buyer would have paid.
Simultaneous second mortgages
Here a bank or credit union provides the money, but the mortgage exists only because of the purchase. The classic version is the 80/10/10: an 80% first mortgage, a 10% purchase money second, and a 10% down payment. Buyers used this structure for years to dodge private mortgage insurance, and it still shows up for jumbo buyers who want to keep the first loan inside conforming limits.
Why Buyers Choose One
The reasons tend to be practical rather than romantic.
- Credit or income that doesn’t fit a bank’s box. Self-employed buyers with heavy write-offs, recent arrivals without a long credit file, or anyone with a short sale two years back often get declined by agencies but approved by a seller.
- Property problems. A house with no working kitchen, a fixer with peeling paint, or a rural property on well and septic may fail conventional or FHA appraisal standards. A seller-financed purchase money mortgage doesn’t care.
- Speed. No appraisal, no underwriting committee, no 45-day rate lock. A seller-financed closing can happen in two weeks.
- Loan limits and unit counts. Investors buying a fourplex above the conforming limit, or a sixth property, often can’t get agency financing at all.
- Price flexibility. Sellers who carry paper frequently accept a higher purchase price in exchange for a steady interest stream.
What It Costs
Expect to pay for the convenience. Seller-carried rates typically run one to three percentage points above what a bank would charge on a comparable loan, so a market rate of 6.5% might become 8% or 9%. Down payments usually land between 10% and 20%, though some sellers accept less when the buyer’s story is strong.
Closing costs are lighter than a bank deal because there’s no origination department, no appraisal, and often no lender-imposed title insurance requirement. You’ll still pay for a title search, recording, and a lawyer or title company to draw the note and mortgage. Budget $1,500 to $3,000 on a typical residential purchase.
Third-party purchase money seconds behave more like normal loans. Rates sit a point or two above the first mortgage, and there may be a modest origination fee. In exchange, you borrow at institutional pricing instead of seller pricing.
The Balloon Payment That Catches People Out
Most seller carry-backs are written as 30-year amortisation with a much shorter maturity. The monthly payment looks affordable, and then the entire remaining balance comes due. Run the numbers on that $280,000 note at 7%.
Monthly principal and interest comes to roughly $1,863. After five years of on-time payments, the balance is still about $265,000. That’s the balloon. If the buyer hasn’t refinanced, sold, or negotiated an extension, the seller can demand the whole amount, and the alternative is foreclosure.
Ask two questions before signing anything with a balloon attached: how long is the fuse, and what happens if rates are ugly when it burns? A five-year balloon on a property you plan to hold for twenty is a refinancing bet, not a mortgage.
Rules, Paperwork, and the Three-Property Limit
A purchase money mortgage needs a promissory note spelling out the rate, payment, and maturity, plus a mortgage or deed of trust that gets recorded with the county. Skip the recording and you risk losing priority to a lien filed later.
Federal law shapes seller financing more than most people expect. Under Dodd-Frank ability-to-repay rules, an individual seller can typically extend financing on up to three properties in a 12-month period before being treated as a loan originator, which brings licensing and compliance obligations. Some states layer on their own consumer protection statutes with different thresholds. Anyone planning to make a habit of carrying paper should talk to a real estate attorney first.
For a fuller picture of how these arrangements are structured and documented, this guide to buying without a bank through seller financing goes deeper into the paperwork.
Due-on-Sale Trouble
The biggest hidden landmine usually sits with the seller’s existing loan. If the property is already mortgaged, that note almost certainly contains a due-on-sale clause. Selling on a purchase money mortgage can trigger it, letting the original lender demand full repayment. Lenders rarely enforce it when payments keep arriving on time, but that is not the same as a guarantee.
Two structures solve the problem. A wraparound mortgage keeps the original loan in place and layers the seller’s new financing on top, so the underlying lender sees nothing change. Or the buyer can take over the seller’s existing loan where the lender permits assumption, which is often cheaper than a fresh note at today’s rates.
How It Compares to Other Creative Financing
A purchase money mortgage isn’t the only route when conventional lending fails, and it isn’t always the best one. Investors who need funds in ten days to stop a foreclosure usually want a short-term hard money mortgage instead, accepting 10% to 14% rates for speed and property-first underwriting.
Borrowers with solid income but a messy credit file may do better with a private mortgage from an individual investor, which prices closer to institutional rates. And buyers who simply cannot cover a full down payment can pair a purchase money second with a shared equity mortgage, trading a slice of future appreciation for cash today.
Before You Sign
Insist on a written amortisation schedule rather than a handshake. Get the balloon date in bold type, and confirm in writing whether the seller will extend it if you have paid on time. Verify there’s no existing lien that could complicate title. Have an attorney or title company review both the note and the security instrument, and make sure the mortgage gets recorded within days of closing.
Then run the refinance math using today’s rates, not last year’s. If the deal only works because you are assuming rates will fall before the balloon comes due, the arrangement is carrying more risk than the monthly payment suggests. A purchase money mortgage is a genuinely useful tool, and like any tool it rewards the borrower who reads the instructions.