According to Investopedia, a land contract is an agreement between a buyer and seller of real estate in which the seller retains ownership of the property until payment is received in full, but permits the seller to use the property while making payments towards ownership, as with a mortgage. Land contracts can be an attractive alternative to traditional mortgages, but they do entail unique pros and cons, which both parties should understand up front.
Expanded Pool of Prospective Buyers
Because land contracts are private agreements between parties, a seller can enter into a land contract with buyers with poor credit who could not qualify for a traditional mortgage. This "pro" expands the pool of possible purchasers for the seller while also making home ownership available to a buyer who could purchase a home in no other way.
Possession of Title
Another "pro" for the seller is that he retains the title or deed to the property until full payment per the contract has been received. Ownership is transferred only after the full balance is paid, preventing possible loss of the property should the purchaser fail to perform and often permitting forfeiture rather than the slower foreclosure process.
One "pro" for the buyer is that he can begin enjoying the property immediately upon signing the land contract (subject to its terms) and needs to pay only the down payment and up-front costs before residency. What's more, the buyer enjoys the legal protections of a resident against unlawful entry or other disruptions of use by the owner.
One potential "con" for sellers using land contracts is that not all states recognize land contracts as legally binding documents. Also, some states provide more expansive legal rights for land contract buyers than others, limiting owners' rights in some respects. For these reasons, it's important to have any land contract reviewed by an attorney before closing one.
If the seller's original bank mortgage includes a "due-on-sale" clause (which most do), sale by land contract may require the seller to pay the remainder of the original mortgage back in full immediately upon completion of the contract. Most mortgages are "assumable" by the buyer, but many land contract purchasers lack the credit rating for assumable approval.
Financial Benefits to the Buyer
Land contracts benefit buyers financially in a number of ways. First, it provides the buyer time to build up a positive payment history and to repair bad credit for future financing. Second, it allows her to improve her income-to-debt ratio, an element of her credit rating. Third, it provides time to save a down payment for future financing, and fourth, the lender will treat her loan as a refinance mortgage, which is cheaper and easier than a mortgage for purchase.
- signing a contract image by William Berry from Fotolia.com