What is a Land Contract?
A land contract is an alternative form of real estate financing where an agreement is formed between a buyer and seller. In a Land Contract, the buyer takes possession of the property and pays monthly payments, plus interest, to the seller, just like the buyer would pay to the bank. A land contract is a form of seller financing.
The Legal History of Land Contracts in Michigan
Michigan’s Land Contracts Act 237 of 1879 is described as an “ACT to provide for the execution, acknowledgment, and recording of contracts for the sale of land.” Read the complete act here. In other words, Land Contracts are recognized by the State of Michigan as a valid and legal way to sell a piece of property.
How Do Buyers Benefit from a Land Contract?
Land contracts serve buyers who would otherwise have trouble qualifying for a traditional mortgage, so the seller agrees to provide financing to the buyer. Unlike a traditional mortgage, the legal title is NOT transferred to the buyer until they’ve paid off their debt to the seller.
How Do Sellers Benefit from a Land Contract?
Land contracts can make a property easier to sell because the seller determines their own credit requirements for the buyer. A land contract can have tax benefits because the property is purchased through monthly payments spread over many years rather than a lump sum payment in a single year.
Land contracts may be used when the home would not qualify for a traditional mortgage. For example, a home with a non-functional bathroom or kitchen will be considered “uninhabitable” by a traditional lender, and therefore not qualify for a traditional mortgage.
Or the buyer and seller might both agree that the home is worth more than a bank is willing to lend for it. This may be the case if the home has unique architecture or features compared to nearby homes.
What are the Risks of Buying a Home on a Land Contract?
If you are buying a home on land contract, you should probably hire a real estate attorney to represent you. If you are not experienced in Real Estate Law, you could easily get burned.
For example, sellers are not required to disclose debts or liens to buyers, which means the home could be foreclosed on by a lender or be subject to tax foreclosure. This could result in you, the buyer, losing the home, and everything you’ve invested in it, through no fault of your own.
In most other cases, buyers who use Land Contracts are exposed to the same risks and are afforded the same protections that they would receive with a traditional mortgage. More on this below.
What are the Risks of Selling a Home on a Land Contract?
Generally speaking, the greatest risk faced by the Seller is a breach of the land contract that requires removing the buyer. Removing a buyer from a property will generally take much longer and be more expensive than it would be in a traditional rental/tenant situation.
Land Contract Eviction Process in Michigan
The process of being removed from a house is a bit more complicated when it involves a Land Contract, and the details will of course vary based on the specifics of your land contract. The owner of the house has two options: Forfeiture or Foreclosure.
Land Contract Forfeiture
Most land contracts include a forfeiture clause allowing a seller to keep all money paid towards the home, and take back possession of the home if the buyer breaches the contract. This option is only available if the land contract includes a forfeiture clause. Here is an overview of the forfeiture process:
- The seller must provide the buyer with a forfeiture notice by first-class mail, or it can be delivered in person. This notice gives the buyer at least 15 days to fix the land contract breach.
- If 15 days pass and the buyer does not resolve the breach, the seller can file a complaint in district court.
- The buyer must respond to the complaint. If the buyer does not, the judge could enter a default judgment against them.
- If the complaint is over a payment breach and the judge rules with the seller, the buyer has a 3-6 month redemption period to pay the amount the court determines is past due. The buyer has 3 months if they have paid less than 50% of the land contract, and 6 months if they have paid 50% or more of the land contract.
- Once the redemption period is over, the seller can begin the evict process.
Land Contract Foreclosure
Depending on the terms of the Land Contract, there may be an “acceleration clause” requiring the loan to be paid in full if there are missed payments. However, a seller can foreclose on a home for non-payment even if there is not an acceleration clause. Here is a broad outline of that process:
- The seller files a complaint in district court.
- The buyer responds to the complaint. If the buyer does not, the judge could enter a default judgment against them.
- If the judge finds that the buyer has breached the contract, they will enter a judgment in favor of the seller and order a Sheriff’s Sale of the property.
- After the Sheriff’s Sale, there is a redemption period before the buyer can be evicted from the property. The redemption period is typically 6 months. If the Land Contract Buyer meets the redemption requirements, they can keep the home.
- After the redemption process, the eviction process can begin to remove the Land Contract Buyer from the home.
How a Land Contract is Generally Structured
Seller Financing Terms
When it comes to financing terms, a Michigan Land Contract is not all that different from a traditional mortgage. However, there is a little more negotiating room. It will be up to the buyer and seller to come to terms on the down payment, interest rate (up to 11% is legal in Michigan), and the length of the loan. When it comes to negotiating a land contract, keep in mind that there doesn’t have to be a winner and a loser. Generally speaking, a land contract is used because both the buyer and seller are getting some kind of benefit from it, otherwise, traditional financing would be used.
Balloon Payment
Some land contracts include a balloon payment, which pays off the loan entirely on a specified date. The land contract may spread out monthly loan payments over a 20 year period in order to make them affordable, but the entire loan must be paid in full at a specific date. This could be at 1 year, 3 years, 5 years, 10 years, etc. The idea behind a balloon payment is that buyers will establish credit to obtain traditional financing through a bank on or before the date when the loan “pops”.
Land Contract Forfeiture Clause
A forfeiture clause allows the seller to keep all money paid on the land contract AND take back possession of the house if the buyer breaches the contract (misses payments). If you are the seller, you want to make it easy to get your house back in the event the buyer stops paying. If you are the buyer, you want a Forfeiture Clause that gives you as much time as possible to make up any missed payments without triggering a forfeiture.
Can You Sell a House you are buying through a Land Contract?
You bought a house on a land contract, you haven’t paid it off, and now you want to move. How do you get out of a land contract? You might be able to sell it, just like you would any other house. This will depend on the details of your specific contract, and you will want to have a real estate attorney review your land contract before attempting to sell the house.
What Provisions Should a Land Contract in Michigan Include?
Michigan doesn’t have a standardized land contract form. The Michigan Foreclosure Task Force suggests having the following provisions in a Land Contract:
All payment terms including down payment, remaining balance, amount of monthly installments, the interest rate, the number of years of the land contract and any specific date for a balloon payment.
Provision that gives the buyer possession of the property during the term of the land contract. If this is not included, then possession remains with the seller.
Provision indicating that the buyer had received a title insurance policy covering the property and that the buyer accepts the condition of the title as disclosed in the policy. Note: Make sure the Title Insurance is reviewed to find out if: a. There is an underlying mortgage with a due on sale clause? c. There is an underlying Land Contract with another party? d. There are other liens that might affect marketability of title. e. There are any delinquent taxes, or special assessments.
Provision covering property taxes. It must be determined who will be responsible for paying property taxes during the period of the land contract. The mechanics of this can be handled in a number of ways, but in the end the buyer typically pays the taxes either directly or indirectly. It is a good idea to include language requiring the party paying the taxes to provide evidence to the other party that the taxes have been paid.
Provision requiring the seller to deliver a warranty deed to the buyer upon the buyers’ performance to the terms of the land contract. The seller is generally not permitted to place additional easements or other restrictions against the property during the term of the land contract. The seller may except from the warranty any liens caused by the acts or omissions of the buyer during the term of the land contract.
Provision requiring the seller to pay the transfer taxes when delivering the deed to the buyer. Alternatively the provision could provide that the buyer deduct the amount of the transfer taxes from the final installment(s) on the land contract and pay the transfer taxes when the buyer records the deed.
Provisions with respect to liability and casualty insurance. The seller will certainly want insurance on the property during the term of the land contract to assure payment if the property is damaged or destroyed. The land contract should provide for who will pay the insurance (buyer or seller) and whether or not the paying party will be required to provide evidence of payment to the other party.
Provision specifying whether the buyer can or cannot transfer its interest in the land contract without the prior consent of the seller. As importantly, the provision should specify whether the buyer will or will not remain liable under the land contract after the transfer.
Provision requiring the buyer to maintain the property in good condition, reasonable wear and tear excepted. As a corollary, there should be a provision acknowledging that the buyer has purchased the property in “as is” condition.
Provision addressing whether or not a buyer can make substantial changes to the property without the consent of the seller.
Provision regarding the seller’s right to place mortgages on the property. It must be remembered that the seller still has legal title. If the seller is going to be permitted to place a 4 mortgage on the property, the contract typically provides that the mortgage amount shall not exceed the balance owed under the land contract. On addition, the contract typically provides that the amount of monthly payments of interest and principal on the mortgage cannot exceed the amount of monthly payments required under the land contract. These provisions are essential in the event that the buyer wishes to assume the seller’s mortgage or is required to step into the shoes of the seller with respect to that mortgage.
Provision spelling out the legal remedies permitted the seller in the event the buyer defaults under the terms of the land contract. These typically include three options: A. Sue for Breach of Contract (available to seller even if not spelled out in the contract) B. Forfeiture of the land contract (ONLY if included in the contract) C. Foreclosure on and sale of the land contract property (available to seller even if not spelled out in the contract)
Provision specifying that upon execution, the land contract will become part of the public record by being recorded with the County Register of Deeds.
Do I Need a Real Estate Attorney for a Land Contract?
You don’t have to have one, but consider, who is writing the Land Contract? The other person’s attorney? If that is the case, their attorney represents their client’s best interests, not yours. Having a real estate attorney on your side will be a valuable asset.
Your attorney will have your best interest in mind and can assist with reading the contract and bettering your understanding of terms related to the transaction. Doing so may prevent disputes from occurring later on, or prevents you from signing a contract that may harm you in the end.
Land Contracts are useful forms of financing, but, there is a level of risk to both the buyer and seller. Fully understanding the provisions of the land contract is imperative to having a smooth transaction. For any questions regarding land contracts in Michigan, contact a real estate attorney in Muskegon, Michigan.