Yes. With the right circumstances and a fair document, a land contract (sometimes called a “contract for deed”) can be a great way to transfer real estate when traditional financing is not available.
More often, we hear about terrible results from land contracts. Unscrupulous sellers can use them to trap low-income buyers who make a down payment, invest thousands of dollars for basic repairs, but miss one or two payments and then have everything taken away – evicted as if they had been a tenant. Or sellers complain that they thought they had sold the house only to find the buyer stopped making payments and they have to get a lawyer involved to regain possession.
Land contracts work best when (a) the house is in good shape to begin with; (b) the buyer has good credit and can afford to purchase and maintain the home, but (c) the purchase price of the home is too low to support a traditional mortgage loan. In South Bend, we have a large number of homes that sell for less than $50,000. In many cases, banks and other mortgage lenders will not finance home sales in this range because federal regulations limit the fees they can charge to a small percentage of the loan amount, making a $40,000 loan (the loan amount after 20% down on a $50,000 house) simply unprofitable for the bank. Most of these homes are bought and sold on land contract.
Under good conditions – with a home in good shape and a buyer with good credit – a land contract can work well if it’s written fairly for both the seller and the buyer. Unfortunately, many of these deals are done with forms downloaded for free from the internet – most of which are poorly written or are one-sided (usually in favor of the seller).
When a lawyer reviews a land contract, he or she is usually looking to see how the contract handles a few key issues:
- Property Identity: Is it clear which legal parcel is being sold and what its boundaries are? It’s easy to check the public GIS records to make sure that what the County thinks the property boundaries are matches what the parties think is being sold. (Also good to check whether there might be any obvious boundary disputes with neighboring properties).
- Term: Over how many months will the seller finance the transaction? Is there a simple-to-understand schedule of payments?
- Interest Rate: Is the interest rate fair? When you check the calculations, is the actual interest rate paid the same as the interest rate listed in the contract?
- Disclosures or Warranties: Has the seller disclosed all defects that the seller knows about? Is the seller making any warranties about the condition of the home or major systems (e.g. plumbing, electrical, HVAC, roof)?
- Control: Does the buyer have full control over the property, except to allow the seller the right to inspect the property from time to time upon reasonable notice?
- Recording: Do the parties plan to have the land contract (or a summary) recorded? The buyer wants this both to give notice to the world of their interest and also to enable them to claim a homestead exemption.
- Mortgage Right: The seller should retain the right to mortgage the property during the term of the contract, so long as the balance of the mortgage loan never exceeds the balance due on the contract.
- Forfeiture: Have the parties agreed at what point the seller has made enough payments that they have “a substantial interest” in the property such that a default would lead to foreclosure rather than forfeiture? It’s better to pick a dollar figure – usually around 30% of the purchase price.
Finally, when someone is buying a home on land contract, it’s always a good idea to have a basic title search done on the property before signing the contract. For around $150, a title company will comb through public records to (a) confirm that the party selling the home actually owns it and (b) reveal whether any other parties have liens on the property. It would obviously be a waste of time and money for a buyer to make years of payments only to later learn that the seller can’t transfer clean title.
Disclaimer: The THK Legal Blog is for informational purposes only and should not be relied upon as legal advice. In no case does the published material constitute an exhaustive legal study, and applicability to a particular situation depends upon an investigation of specific facts. You should consult an attorney for advice regarding your individual situation.