Land Contracts: What Are They?
Land Contracts are an alternative method of financing a real estate deal. It is often utilized when a traditional mortgage cannot be obtained. A land contract is basically a deed given to the buyer with a promise to pay, and payment options set out. Payment is typically made to the seller on real estate for the down payment, and monthly payments over time. So, the buyer makes a small down payment at the time of purchase and then makes monthly payments to the seller until the full purchase price is paid . If the buyer fails to make the required payments, they can lose the property and any and all money they have paid the seller. Although the buyer gets the deed immediately, it is not free and clear and the seller can take it away with no notice if the buyer defaults. Typically, the buyer holds title while making payments to the seller and only gets a clear deed after the land contract is paid off. Because the seller retains the right to the property in the event that the buyer fails to make the required payments, the seller can easily repossess the property in a short amount of time.
How Land Contracts Work in Michigan
In Michigan, there are various options for putting a set of real estate purchase terms down on paper. One of these options is entering into a land contract, legally considered an installment sales contract. Michigan land contracts are commonly used for the purchase of lots, houses, condominiums and even commercial properties. A land contract includes all of the essential provisions of a typical real estate purchase agreement: property description, parties, legal obligations, payment terms, contingencies and closing provisions. The primary difference between a real estate sales contract and a land contract is the method in which the buyer will make their payments to the seller and how the deed to the property will be transferred to the buyer.
Under a typical Michigan real estate purchase agreement, the seller would deliver the title to the property at the closing of the transaction, free and clear of any mortgages, encumbrances or liens. The buyer then pays the full price of the property immediately with the closing funds. In this situation, the buyer assumes legal ownership of the property and takes the title (deed) at the same time the seller transfers the title to the buyer.
With a land contract, the seller gives the buyer immediate possession of the property, but instead of transferring the title immediately, the seller holds title until the purchase price is paid in full. The buyer makes regular monthly installment payments to the seller, like paying a mortgage, and keeps a record and copy of all payments made. At the end of the specified time period or when the total purchase price is paid in full, the seller delivers the deed to the buyer. By then, the buyer owns the property free and clear of any mortgages or liens. Michigan’s "Installment Land Contract Act" (Act 88 of 1915) controls the operation of land contracts and the duties and responsibilities owed by buyers and sellers.
Frequently land contracts are used when the buyer is ineligible for traditional financing, such as a mortgage. Examples include when the buyer has poor credit, inconsistent work record, no down payment funds, insufficient income or self-employed. Even though the buyer is not able to qualify for a mortgage, they usually make regular payments on the land contract, just as they would have done if they had been able to get a mortgage. Over time, their credit and financial situation usually improves and they will be able to qualify for a mortgage, allowing them to refinance the land contract and pay it off. Incidentally, when the buyer refinances the land contract with a bank refinance mortgage, the seller receives the full purchase price at that time, providing the seller is not carrying back a purchase money mortgage for the buyer’s down payment less the seller’s concessions in the purchase. A purchase money mortgage occurs when the seller agrees to provide part of the financing for the buyer’s loan to purchase the property from the seller. Although the seller is buying a house in this scenario, the buyer still needs plenty of cash on hand to cover the costs of the transaction.
Benefits of Land Contracts
The advantages of using a land contract, as relates to both the buyer and the seller, generally are accessibility, the ability to negotiate your own terms, and control over the process itself.
For example, if a homebuyer has bad credit or doesn’t qualify for a bank loan, financing through a land contract arrangement could be a good way to go. If a buyer qualifies for a conventional mortgage, it’s usually advisable to get that type of mortgage versus a land contract. A land contract can also be advantageous when dealing with a special type of interest, such as a trust or an estate that benefits from purchasing a property directly from the estate instead of an estate beneficiary.
Along with other arrangements, land contracts enable homebuyers to finance a home purchase without the need for third parties or banks and avoiding "red tape." In today’s real estate market, however, which is dramatically different from even just a few years ago, sellers may be more willing to negotiate when it comes to accepting various types of financing (home equity lines of credit, conventional loans, etc.) In general, to qualify for a land contract arrangement, buyers are not required to show a down payment, income verification and debt-to-income ratio.
For sellers, land contracts present several advantages. You will have your money available sooner than is typically the case with the sale of a home, and you are essentially — unless repossession becomes necessary — becoming the bank (mortgage holder) to the buyer. What this means is that for the time being, you are earning interest on your money. You have more control over the sale process.
Keep in mind, as well, that Michigan is one of a handful of states that have laws that allow for the non-judicial foreclosure on a land contract. This means that there is no need to file any foreclosure action, and the home can be repossessed without the buyer having a chance to defend the foreclosure in court. As long as the correct non-judicial process is followed, the foreclosure can be completed in a fairly short amount of time — typically only 60 days.
Land Contract Risks and Challenges
Risks and Challenges of Land Contracts in Michigan
When you enter into a land contract, you are essentially making an agreement with a seller to pay for the purchase of property over a set amount of time. In many instances, buyers are attracted by the land contract because it has lower financial barriers than traditional mortgages have. However, these types of financing plans also come with some risks and challenges.
One common risk involves the seller’s obligations for the property. When you make a deal for a mortgage, you are entering into a binding financial agreement, which the lender must adhere to as much as the buyer does. However, with land contracts, you have to rely on the seller(s) to fulfill their obligations.
Failing to uphold the terms of a land contract runs the risk of property foreclosure just like a regular mortgage. Therefore, both parties have to have a high degree of trust in one another when engaging in these agreements, and the buyer should thoroughly check the seller’s status and whether he or she has ever defaulted on other loans in the past.
Another potential challenge involves issues that arise when the property title is transferred. While the buyer may believe he or she is the owner of the property, the legal title doesn’t change hands until all payments have been made. Until that point, the seller is still the owner in the eyes of the law, which can lead to complications regarding the buyer’s rights to rent or sell the property at his or her own discretion.
If the buyer wants to use the property for financial gain before he or she fully owns it, it’s important to engage the services of an attorney who is experienced with land contracts and who can develop a lease agreement between the buyer and seller that helps ensure the buyer’s rights to the property.
Lastly, because there is less financial regulation involved with land contracts, they can sometimes be used to take advantage of or defraud consumers. If the seller does not have the authority to sell the property, for example, the buyer stands the chance of losing money on the deal when the correct owner comes along and demands payment or the immediate return of the property.
Requirements for Michigan Land Contracts
Michigan law imposes certain requirements for any enforceable land contract. As a threshold matter, a land contract must be in writing and signed by both the seller and the purchaser. The failure to satisfy these minimal requirements will render the land contract unenforceable.
A potentially problematic aspect of Michigan land contracts is the fact that Michigan state law does not explicitly state what should be included in a land contract or have a suggested form for drafting written land contracts. Accordingly, a Michigan land contract can be as simple or as complex as the parties would like, as long as the following six elements are present:
An enforceable land contract must also comply with the formalities for a duly recorded deed. In particular, the contract must be signed by the buyer, and must be witnessed by two witnesses . Michigan law expressly allows for the signatory to acknowledge the land contract before a notary public in lieu of the witnessing requirement, but this is not the preferred formality for a recorded deed and may be frowned upon by the register of deeds.
Further, the contract must be sealed. Specifically, the contract must bear the corporate seal or be signed in the corporate name by a corporate officer specifically authorized by the board of directors. If a corporate land contract lacks these formalities, it is voidable until a court of competent jurisdiction enters an order validating the contract.
For a land contract to be recorded with a register of deeds in Michigan, it must include a statement indicating that the purchaser and seller agree that the property is not subject to Chapter 9 of the Bankruptcy Act of 1898, 11 U.S.C. 108 (i.e., the bankruptcy liquidation procedure). This requires inclusion of such language in the land contract to ensure that a later bankruptcy by the buyer will not interfere with the enforcement of the land contract’s terms.
Creating a Land Contract in Michigan: Step by Step
Land contracts in Michigan are governed by specific statutes and, accordingly, checklists exist to ensure that all the proper steps are taken while assembling the agreement. The following are a few of those steps, though the entire checklist is far more extensive:
1. Select the Terms of Purchaser’s Loan/Maturity Date
During negotiations, the parties will agree upon the amount of the payments. Generally, this is usually agreed upon between the buyer and the seller.
2. English-Only Language
All land contracts must be printed in the English language. Not only is this enforced as a matter of public policy, but it also alleviates any issues with translation. Bad translations can add ambiguity to the contract, and result in lawsuits to interpret that ambiguity or reform the agreement.
3. Select the Amount and Frequency of Installment Payments
Are you going to have a monthly payment or an annual payment? Will there be interest? This will depend on the negotiations of the selling price and the buyer’s financial condition.
4. Insert Cancellation Provision Requiring Notice of Non-Payment
If a payment is missed, the seller has to give the buyer written notice of not paying. The notice gives the buyer at least 30 days to make the payment before the land contract is cancelled.
5. Delivery
Make sure to deliver a copy of the signed land contract to seller and the buyer. Michigan law requires that the purchaser obtain a signed copy from the seller.
Land Contract Disputes
As with any contract, a land contract is subject to disputes that may arise during its term. To understand how to resolve any land contract dispute, it’s essential to first know what types of disputes may occur. The most common form of dispute on a land contract is the nonpayment of a monthly installment, which is pretty self-explanatory. Other potential disputes may include the failure of the buyer to pay taxes, insurance, or perform maintenance on the property. Disputes regarding a seller’s disclosures on the property after the buyer has taken possession may also arise. If a dispute does happen, there are a few different options.
Payment Agreement – In some land contracts, the contract allows for a payment agreement if the buyer misses a payment or is facing foreclosure. The seller and buyer decide on an alternative payment schedule and get the approved payment agreement in writing.
Judicial Action – It’s not uncommon to begin a lawsuit if a land contract dispute has arisen, particularly if the buyer is nonpayment on installments. Under the Michigan Land Contract Act, if either party defaults on the contract, the aggrieved party may make a written demand for performance to the other party. If the party is not performing within 15 days of the demand, the aggrieved party may file suit in either the circuit court or the district court.
Receivership – If a land contract dispute arises, and there’s a dispute over possession of the property, the buyer or seller may ask the court for an appointment of a receiver in accordance with Michigan Rules of Court Rule 3.207 in addition to filing a complaint. An appointed receiver is usually someone from outside the parties involved in the dispute that will manage the property until the case is resolved.
Forfeiture – In the case where a land contract buyer fails to make a payment and cannot agree on a new payment plan with the seller, the seller reserves the right of forfeiture. This requires the seller to first provide the buyer with a written demand to pay the amount due, including details about the default as well as a time period for them to make good on the breach. If, after 15 days, the buyer has still not made the payment, the forfeiture may be executed. A buyer who has been served with a demand for payment may recover possession of the property by making payment within the specified time period.
Deed in Lieu of Foreclosure – If the buyer wishes to walk away from the land contract, Michigan recognizes that he or she may return the property to the seller in exchange for canceling the deed. This is called a deed in lieu of foreclosure. A deed in lieu of foreclosure should be jointly executed by the seller and buyer, and must describe the land being conveyed.
Before getting involved in a land contract, both parties should know the options for resolving disputes, as well as if they are willing to use those options if a conflict should arise.
Alternatives to Land Contracts
Beyond a land contract, there are other real estate financing options available to buyers in Michigan. For many, an option may be a traditional mortgage, which is likely going to provide the best rates and terms for the buyer. The downside to a mortgage is that a buyer needs to have a sizable down payment (typically at least 3 percent for a conventional loan), and if the buyer has bad credit, they may struggle to qualify for a mortgage at all. A buyer with bad credit may still be able to obtain a mortgage through the Federal Housing Administration (FHA) or other programs , but the terms are going to be less favorable.
A lease-to-own (also called rent-to-own) agreement is another option. It allows a buyer to move into a home immediately and begin making monthly payments as they would under a mortgage, but gives them the security of purchasing the home at a later date. Work with a real estate attorney to ensure there’s a written agreement in place that protects both parties and outlines what happens to the payments in the event the buyer decides not to go through with the purchase (such as becoming a tenant or receiving a refund).