By Leo Garcia and Heather Morton | June 2022
Homeownership has long been a fundamental pillar of the American dream. However, financial and regulatory barriers to purchasing property can be high and many first-time homebuyers lack access to traditional mortgages. As a result, around 36 million Americans have used alternative financing—such as rent-to-own, land contracts, or loans just on a manufactured home—as a path to homeownership.
Land contracts, also known as contracts for deed, are one of the most common forms of alternative home financing. In this arrangement, the buyer makes payments directly to the seller instead of paying a mortgage to a third-party lender. In land installment contracts, the property deed is usually not transferred to the buyer at the outset of the transaction as the seller maintains ownership until all payments have been made.
Proponents of land contracts argue they provide homeownership opportunities to families who cannot access mortgages. When a mortgage lender is not involved in the transaction, a down payment might be smaller, if required at all, and closing fees may be lower. Moreover, direct negotiations between buyers and sellers sometimes allow land contract transactions to close faster than traditional mortgages that depend on third-party lenders to finalize the deal.
However, land contracts often lack protections that accompany traditional mortgages, carrying increased risk and costs for the purchaser. For instance, these arrangements may not be included in public deed records, putting buyers at risk of having their interests hindered by a later transfer or vulnerable to fraudulent actors who may claim to legally own the property. Title searches may not be performed, so the home may be subject to other mortgages and liens that can threaten the buyer’s ownership. Equity rights to the property are also often unclear or not guaranteed if the buyer makes a late payment or defaults on the payments. The buyer potentially risks losing all the equity that the purchaser built up through payments, home repairs, or appreciation, without any of the protections of the foreclosure process that mortgage borrowers have.
Twenty-one states have substantive laws governing land contracts, meaning they have laws that directly regulate the central elements of land contracts. For example, Illinois enacted the Installment Sales Contract Act in 2017, expanding protections for buyers in land contracts. The act requires the seller to record the contract at the county and provides some rights to the buyer to rescind if the seller fails to record within 10 days of the sale. The law also establishes a 90-day grace period in situations of buyer nonpayment, allowing the buyer time to make all outstanding payments to cure the default.
Similarly, Colorado requires the seller to designate the public trustee of the county where the property is located as an escrow agent for property tax payments and submit a written notice of transfer by contract for deed to the county treasurer and county assessor. In North Carolina, land contracts must include several disclosures to maintain transparency, be recorded within five business days after signing and the law provides procedures for cases of forfeiture after default. For those states without substantive statutes, state courts often apply common real property or contract law principles to create remedies for buyers and sellers.
Specific issue areas involving land contracts that state laws address include, but are not limited to, recording requirements and habitability of the property. Recording requirements protect buyers by making public and traceable their involvement and interests in the property. Around a dozen states require land contracts to be publicly recorded. In Iowa, sellers are prohibited from enforcing forfeitures unless the contract has been recorded in the county deed records. Habitability is also a factor in the regulation of land contract transactions. Extensive home repair costs can be excessively burdensome for lower-income buyers and can increase the chances of default. Maine and Virginia are the only states that require sellers to provide habitable living conditions.
In 2022, West Virginia lawmakers introduced a bill that would extend a number of mortgage-like safeguards to purchasers, including seller requirements such as a recordation of the contract; a statement of any encumbrances against the property; the performance of a home inspection; and obtaining an appraisal. In Maryland, legislators introduced legislation that would include protective measures for buyers and require sellers to provide title search results before signing. In 2021, Kansas lawmakers proposed a bill aimed at safeguarding buyers by setting limits on forfeiture.
The U.S. Treasury Department released more inclusive guidance that made financial assistance available to homeowners experiencing economic hardship linked to the COVID-19 pandemic. The Homeowner Assistance Fund (HAF) allocated almost $10 billion from the American Rescue Plan Act to states for vulnerable homeowners. In the HAF guidance, Treasury included land contracts in its definition of a mortgage, stating “a loan secured by a manufactured home, or a contract for deed (land contract) may fall within this definition…in accordance with applicable state law.”
Therefore, eligible homeowners using land contracts may be entitled to receive financial assistance from the HAF that can be used for mortgage payment assistance, housing counseling or payment assistance for delinquent property taxes to prevent foreclosures. However, states must have submitted a funding request that included land contract borrowers to Treasury to receive money from the HAF—highlighting the important role that states play in policies that impact alternative financing arrangements.