An arm’s length transaction refers to a business deal between two unfamiliar parties. Without a previously established relationship, each party can access similar details surrounding the deal and freely pursue their own self-interests as they negotiate the terms. The figurative phrase “arms-length transaction” comes from the English idiom “to keep something at arm’s length,” which means “to remain distant or impartial.” 

An arm’s length transaction is typically used to refer to real estate transactions, like selling a home, real estate investment, or business properties. The opposite of an arm’s length transaction is a non-arm’s length transaction: a business deal between familiar parties (called an “identity of interest”), resulting in each party using their relationship to either over or undersell the object of the transaction.
Here’s how a standard arm’s length transaction works:

1. __A seller puts an object on the market__. A seller must put the item or property up for sale to initiate a transaction—whether that’s a house, an investment property, a parcel of land, a car, or a piece of furniture. 
2. __A buyer signals their interest__. For a deal to qualify as an arm’s length transaction, the buyer approaching the seller has to be an unrelated party rather than a friend, family member, or business associate. 
3. __Both parties negotiate__. In an arm’s length transaction, both parties do not have a previous relationship, which allows them equal bargaining power and the opportunity to negotiate within their self-interests. In this transaction, the seller is trying to sell for the highest price, and the buyer is trying to buy for the lowest price, usually within a reasonable market price range.
4. __The transaction resolves__. After the [negotiation](https://www.masterclass.com/articles/negotiation-tips-from-masterclass-instructors), the parties can complete the transaction or abandon it for various reasons (for example, pricing or timing). Since neither party knows one another, they’re more comfortable walking away from a deal they don’t like.
Many business transactions in the United States are arm’s length transactions, including:

1. __Classified ads__: When a person advertises an item for sale in a classified ad, they’re attempting to initiate an arm’s length transaction because they’re advertising the item to people they don’t know, with market value pricing.
2. __Home sales__: From new homes to second homes, home-buying transactions and real estate deals are typically arm’s length sales because the seller doesn’t know the home buyer. In many cases, the two parties don’t meet and conduct the transaction through [real estate agents](https://www.masterclass.com/articles/how-to-become-a-real-estate-agent) or [realtors](https://www.masterclass.com/articles/what-is-a-realtor-explained), using the real estate market to determine the property’s value. 
3. __Online purchases__: Online purchases are often arm’s length sales since neither party meets or engages with the other during the length of the transaction.
Arm’s length transactions have several advantages, including:

1. __Preferable for lenders__. From banks to FHA loan programs, lenders prefer underwriting loans for borrowers engaging in arm’s length transactions because they are less subject to mortgage fraud and more likely to follow standard market valuation. In non-arm’s length transactions, lenders may adjust the terms of your down payment, mortgage rates, [closing costs](https://www.masterclass.com/articles/what-are-closing-costs-explained), or loan size (according to additional variables like your loan-to-value or LTV ratio and your credit score).
2. __Have fewer restrictions__. To prevent fraud in certain situations (like property flips or short sales), banks, mortgage lenders, tax laws, the IRS, and other government agencies place restrictions and additional requirements on non-arm’s length transactions or mortgage loans. These restrictions and tax implications can include supplementary analyses of the contract, affidavits, capital gains taxes, and independent appraisers—when you conduct an arm’s length transaction, you don’t have to worry about these additional requirements. 
3. __Avoid social politics__. In an arm’s length transaction, buyers and sellers are free to negotiate with their interests in mind. In non-arm’s length transactions, there’s a significantly higher chance that negotiators are worried about the other party’s feelings or concerned about the lasting effects of the transaction on their personal or business relationship.
Arm’s length transactions have a few disadvantages, including:

1. __Can take a while__. Sellers in arm’s length transactions have to wait around for the ideal interested buyer. Once a buyer approaches, both parties may spend a lot of time negotiating back and forth. In this way, arm’s length transactions can take much longer to initiate and complete than non-arm’s length transactions. Familiar parties may initiate and negotiate much more quickly because they have an established relationship.
2. __Offer less context between buyers and sellers__. Arm’s length transactions are negotiations between strangers, meaning neither party is privy to all of the other’s party’s information. This circumstance can potentially set the stage for one party to conceal information from the other—for instance, that they’re on a short time frame—to try to get the best deal they can. In non-arm’s length transactions, both parties will have more information about the other because of their existing relationship, whether they’re business partners or siblings. 
3. __Lack of deep discounts__. Arm’s length transactions are more subject to the item’s fair market value in the transaction since both parties are using that number to negotiate the purchase price. However, non-arm’s length transactions are more subject to the parties’ emotions—one party may give the other a better deal to preserve or strengthen the relationship.
Arm’s length transactions, in which two unfamiliar parties initiate a business deal, are the opposite of non-arm’s length transactions, in which familiar parties initiate a business deal (like [buying a home](https://www.masterclass.com/articles/steps-to-buying-a-house-explained) from a family member or offering a gift of equity). 

Arm’s length transactions allow both parties to act in their self-interest, while non-arm’s length transactions can result in either party using their relationship to affect the sales price of the object.
All you need is a [MasterClass Annual Membership](https://www.masterclass.com) and our exclusive video lessons from prolific entrepreneur Robert Reffkin, the founder and CEO of the real estate technology company Compass. With Robert’s help, you’ll learn all about the intricacies of buying a home, from securing a mortgage to hiring an agent to tips for putting your own place on the market. 
Depending on your relationship with the other party, a business deal can either be an arm’s length or a non-arm’s length transaction.

Depending on your relationship with the other party, a business deal can either be an arm’s length or a non-arm’s length transaction.

A Guide to Arm's Length Transactions

An arm’s length transaction refers to a business deal between two unfamiliar parties. Without a previously established relationship, each party can access similar details surrounding the deal and freely pursue their own self-interests as they negotiate the terms. The figurative phrase “arms-length transaction” comes from the English idiom “to keep something at arm’s length,” which means “to remain distant or impartial.” An arm’s length transaction is typically used to refer to real estate transactions, like selling a home, real estate investment, or business properties. The opposite of an arm’s length transaction is a non-arm’s length transaction: a business deal between familiar parties (called an “identity of interest”), resulting in each party using their relationship to either over or undersell the object of the transaction.

What Is an Arm's Length Transaction?

Here’s how a standard arm’s length transaction works:<ol class="mc-m-4"><li class="mc-my-4"> 1. A seller puts an object on the market. A seller must put the item or property up for sale to initiate a transaction—whether that’s a house, an investment property, a parcel of land, a car, or a piece of furniture. </li><li class="mc-my-4"> 2. A buyer signals their interest. For a deal to qualify as an arm’s length transaction, the buyer approaching the seller has to be an unrelated party rather than a friend, family member, or business associate. </li><li class="mc-my-4"> 3. Both parties negotiate. In an arm’s length transaction, both parties do not have a previous relationship, which allows them equal bargaining power and the opportunity to negotiate within their self-interests. In this transaction, the seller is trying to sell for the highest price, and the buyer is trying to buy for the lowest price, usually within a reasonable market price range. </li><li class="mc-my-4"> 4. The transaction resolves. After the <a href='https://www.masterclass.com/articles/negotiation-tips-from-masterclass-instructors' target='_blank' class='mc-text--link' data-mc-segment-trigger='true' data-mc-segment-event-type='Article Page Click' data-event-obj='{"textTag":"p","href":"https://www.masterclass.com/articles/negotiation-tips-from-masterclass-instructors","linkCopy":"negotiation","category":null}'>negotiation</a>, the parties can complete the transaction or abandon it for various reasons (for example, pricing or timing). Since neither party knows one another, they’re more comfortable walking away from a deal they don’t like. </li></ol>

How an Arm's Length Transaction Works

Many business transactions in the United States are arm’s length transactions, including:<ol class="mc-m-4"><li class="mc-my-4"> 1. Classified ads: When a person advertises an item for sale in a classified ad, they’re attempting to initiate an arm’s length transaction because they’re advertising the item to people they don’t know, with market value pricing. </li><li class="mc-my-4"> 2. Home sales: From new homes to second homes, home-buying transactions and real estate deals are typically arm’s length sales because the seller doesn’t know the home buyer. In many cases, the two parties don’t meet and conduct the transaction through <a href='https://www.masterclass.com/articles/how-to-become-a-real-estate-agent' target='_blank' class='mc-text--link' data-mc-segment-trigger='true' data-mc-segment-event-type='Article Page Click' data-event-obj='{"textTag":"p","href":"https://www.masterclass.com/articles/how-to-become-a-real-estate-agent","linkCopy":"real estate agents","category":null}'>real estate agents</a> or <a href='https://www.masterclass.com/articles/what-is-a-realtor-explained' target='_blank' class='mc-text--link' data-mc-segment-trigger='true' data-mc-segment-event-type='Article Page Click' data-event-obj='{"textTag":"p","href":"https://www.masterclass.com/articles/what-is-a-realtor-explained","linkCopy":"realtors","category":null}'>realtors</a>, using the real estate market to determine the property’s value. </li><li class="mc-my-4"> 3. Online purchases: Online purchases are often arm’s length sales since neither party meets or engages with the other during the length of the transaction. </li></ol>

3 Examples of Arm's Length Transactions

Arm’s length transactions have several advantages, including:<ol class="mc-m-4"><li class="mc-my-4"> 1. Preferable for lenders. From banks to FHA loan programs, lenders prefer underwriting loans for borrowers engaging in arm’s length transactions because they are less subject to mortgage fraud and more likely to follow standard market valuation. In non-arm’s length transactions, lenders may adjust the terms of your down payment, mortgage rates, <a href='https://www.masterclass.com/articles/what-are-closing-costs-explained' target='_blank' class='mc-text--link' data-mc-segment-trigger='true' data-mc-segment-event-type='Article Page Click' data-event-obj='{"textTag":"p","href":"https://www.masterclass.com/articles/what-are-closing-costs-explained","linkCopy":"closing costs","category":null}'>closing costs</a>, or loan size (according to additional variables like your loan-to-value or LTV ratio and your credit score). </li><li class="mc-my-4"> 2. Have fewer restrictions. To prevent fraud in certain situations (like property flips or short sales), banks, mortgage lenders, tax laws, the IRS, and other government agencies place restrictions and additional requirements on non-arm’s length transactions or mortgage loans. These restrictions and tax implications can include supplementary analyses of the contract, affidavits, capital gains taxes, and independent appraisers—when you conduct an arm’s length transaction, you don’t have to worry about these additional requirements. </li><li class="mc-my-4"> 3. Avoid social politics. In an arm’s length transaction, buyers and sellers are free to negotiate with their interests in mind. In non-arm’s length transactions, there’s a significantly higher chance that negotiators are worried about the other party’s feelings or concerned about the lasting effects of the transaction on their personal or business relationship. </li></ol>

3 Advantages of an Arm's Length Transaction

Arm’s length transactions have a few disadvantages, including:<ol class="mc-m-4"><li class="mc-my-4"> 1. Can take a while. Sellers in arm’s length transactions have to wait around for the ideal interested buyer. Once a buyer approaches, both parties may spend a lot of time negotiating back and forth. In this way, arm’s length transactions can take much longer to initiate and complete than non-arm’s length transactions. Familiar parties may initiate and negotiate much more quickly because they have an established relationship. </li><li class="mc-my-4"> 2. Offer less context between buyers and sellers. Arm’s length transactions are negotiations between strangers, meaning neither party is privy to all of the other’s party’s information. This circumstance can potentially set the stage for one party to conceal information from the other—for instance, that they’re on a short time frame—to try to get the best deal they can. In non-arm’s length transactions, both parties will have more information about the other because of their existing relationship, whether they’re business partners or siblings. </li><li class="mc-my-4"> 3. Lack of deep discounts. Arm’s length transactions are more subject to the item’s fair market value in the transaction since both parties are using that number to negotiate the purchase price. However, non-arm’s length transactions are more subject to the parties’ emotions—one party may give the other a better deal to preserve or strengthen the relationship. </li></ol>

3 Disadvantages of an Arm's Length Transaction

Arm’s length transactions, in which two unfamiliar parties initiate a business deal, are the opposite of non-arm’s length transactions, in which familiar parties initiate a business deal (like <a href='https://www.masterclass.com/articles/steps-to-buying-a-house-explained' target='_blank' class='mc-text--link' data-mc-segment-trigger='true' data-mc-segment-event-type='Article Page Click' data-event-obj='{"textTag":"p","href":"https://www.masterclass.com/articles/steps-to-buying-a-house-explained","linkCopy":"buying a home","category":null}'>buying a home</a> from a family member or offering a gift of equity). Arm’s length transactions allow both parties to act in their self-interest, while non-arm’s length transactions can result in either party using their relationship to affect the sales price of the object.

What Is the Difference Between an Arm’s Length and Non-Arm’s Length Transaction?

All you need is a <a href='https://www.masterclass.com' target='_blank' class='mc-text--link' data-mc-segment-trigger='true' data-mc-segment-event-type='Article Page Click' data-event-obj='{"textTag":"p","href":"https://www.masterclass.com","linkCopy":"MasterClass Annual Membership","category":null}'>MasterClass Annual Membership</a> and our exclusive video lessons from prolific entrepreneur Robert Reffkin, the founder and CEO of the real estate technology company Compass. With Robert’s help, you’ll learn all about the intricacies of buying a home, from securing a mortgage to hiring an agent to tips for putting your own place on the market.

Ready to Learn the Ins and Outs of the American Housing Market? 

Depending on your relationship with the other party, a business deal can either be an arm’s length or a non-arm’s length transaction.

Depending on your relationship with the other party, a business deal can either be an arm’s length or a non-arm’s length transaction.


Menu

Get 50% off Cyber Monday offer

Get 50% off Cyber Monday offer

Get 50% off Cyber Monday offer

A Guide to Arm's Length Transactions