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Land Contracts Explained for Buyers and Sellers

Land contracts have seen a resurgence in Michigan. In recent years the ability for buyers to obtain financing has become a serious problem for those wanting to sell their real estate holdings and those wanting to buy as well. The inability for buyers to obtain mortgage financing to purchase property has, to some extent, resulted in the slowdown in the real estate market that has been impacting the economy for the past five years.

Unique Properties

Similarly, parties that own unique or non-conforming property can also have problems finding buyers that can get a mortgage to purchase the properties. For example, certain government-sponsored loans require that the property being acquired is up to code. Often sellers are not willing, or simply cannot afford, to bring a property up to code. For some older properties, it would not be cost-effective to do the major renovations necessary for the buyer to qualify for a government guaranteed mortgage.

As a result of these factors, we are beginning to see a renewed interest in land contracts. These contracts are sometimes referred to as seller financing. In essence, the seller of a piece of property or a home enters into a contract with a buyer which provides that the seller will execute or deliver a deed for the property at some point in the future upon completion of certain conditions. Usually, the deed will only be delivered when the property is paid off. Frequently the buyer puts down some amount as a down payment and agrees to make a monthly payment. To the extent, these contracts require a down payment and a monthly payment they are similar in nature to a traditional mortgage.

Land Contract — Risk vs Reward

Land contracts, however, are not without risk. Unlike a cash sale or a mortgage situation, the seller remains tied to the property he or she is selling on land contract. The seller is responsible for making sure that the buyer remains current on the payments and also will need to terminate the land contract or forfeit the property if the buyer fails to make the necessary payment. This can be particularly problematic if the seller is using the income from the land contract to finance the purchase of his or her next home.

There is also risk and additional cost for the buyer in such a transaction. Typically a seller will require an interest premium for agreeing to provide owner financing for the sale. There is also a risk in losing the property if the buyer becomes unable to make the payments required under the contract. The procedure for forfeiture available to a seller is similar to an eviction proceeding in District Court. It is designed to afford the seller with the ability to get the property back with a minimum cost and without delay. Obviously, that does not bode well for a buyer when the buyer is unable to make the necessary payments.

Another characteristic of a typical land contract is the existence of a balloon payment. In most cases, a seller will not enter into a land contract which will allow for the payments to be made over 30 years, as a traditional mortgage might provide. It is much more likely for land contracts to require a balloon payment after two to five years. The buyer in such a transaction needs to understand the importance of the balloon payment because if the buyer cannot satisfy the balloon payment their interest in the property will be terminated.

As the economy begins to rebound it is likely that we will continue to see interest in land contracts grow. These transactions should be viewed as complicated legal transactions and should not be entered into without serious deliberation and analysis. Similarly, the parties to such a transaction should not simply use a “form” that someone gives them because the rights they are giving up or obligations they are undertaking may be daunting and unexpected.

The Real Estate lawyers at Penzien & McBride, PLLC are ready to assist our clients in the preparation and review of land contract agreements. If you are considering such an arrangement you are invited to contact us at (586) 690-4400.

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