Homeownership can be complicated, but we also think it’s one of the most rewarding ventures out there. In our new series, Ask an Edina Realty Lawyer, we are hoping to demystify some of the trickier aspects of buying, selling and owning a home.
In this edition, one of our lawyers recaps how buyers can leverage a contract for deed as an alternative to traditional financing. Please note: This is not intended to provide legal advice.
Dear Edina Realty Legal,
I’ve heard a few friends talking about a contract for deed as a good alternative to getting a mortgage… but I don’t understand how a contract for deed works. Can you provide any insight?
Edina Realty Legal:
A contract for deed, which is sometimes called a land contract, is a method for transferring an interest in real estate. It can be a useful way to buy property for those who cannot obtain mortgage financing due to credit or other issues.
The main point of difference for a contract for deed lies in the financing. In a typical home sale, a lender would finance the sale after approving the buyer’s loan. In a contract for deed, the seller finances the sale.
Here’s how it works:
- The buyer and seller sign a purchase agreement that specifies the buyer’s repayment terms. The seller doesn’t actually give money to the buyer; they just don’t receive the full purchase price at closing.
- At closing, the buyer typically makes a down payment, sometimes for a significant amount. Then, the buyer and seller sign the contract for deed.
- The seller remains the legal title owner of the property, but the buyer has an equitable ownership interest — including the right to occupy and use the property undisturbed.
- The buyer makes payments of principle and interest to the seller over the determined term.
- When the contract for deed is paid in full, the seller deeds the property to the buyer, providing the buyer with full legal title. In some cases, the buyer may accomplish the pay-off by obtaining financing from a lender.
A contract for deed has risks and benefits
A contract for deed offers a buyer the opportunity of homeownership despite their inability to secure traditional financing. But the buyer will not own the property until they have paid off the contract. And if the buyer defaults on their obligations, the seller can take back the property and the buyer will lose all the money they have put into it.
For a seller, a contract for deed may create a larger pool of potential buyers for the property and some sellers appreciate a steady stream of income over a period of time. On the other hand, if the buyer defaults or stops making payments, the seller will have to take action to cancel the contract. In that case, they could end up having to sell the house again. In addition, if the seller has not paid off their existing mortgage, their existing lender may not allow them to transfer the property as a contract for deed.
For the right buyer and seller, contract for deed can be advantageous in the short- and long-term.
The Edina Realty Legal Department serves as in-house counsel for Edina Realty and does not represent private clients. This insight is not intended to provide legal advice.