A contract for deed is a written promise to purchase real estate through an installment sale. This type of agreement is typically used when sellers engage in some sort of owner financing such as seller carry back mortgages, lease purchase option agreements, rent-to-own, and land contracts.
A contract for deed can be a good option when sellers are willing to work with buyers who do not qualify for a mortgage loan. When buyers enter into owner will carry agreements they must be committed to improving their credit score so they can qualify for bank financing when the contract expires.
Owner financing is becoming a popular way for sellers to obtain their asking price. With the abundance of foreclosure homes for sale, sellers are finding it challenging to compete in the housing market. Between the declining value of real estate and discount-priced homes, most buyers are not willing to pay full price. This often leaves sellers sitting on property for extended periods of time or forced to sell below market value.
Individuals who have lost their home to foreclosure usually cannot qualify for a home mortgage loan for at least 2 to 3 years. Most foreclosed homeowners prefer to own their home instead of renting. Contract for deed is an option they may want to consider because it allows them to establish a history of making monthly payments while working toward buying a house.
When deed contracts are in place buyers do not take title of the property. Instead, the property deed remains in the seller’s name. When residential property is involved, sellers must report the sale using IRS Form 6252.
Property owners can no longer deduct residential real estate expenses on personal tax returns. Instead, buyers are allowed to assume qualified tax deductions. Both parties should consult with a tax attorney or certified public accountant to ensure they abide by IRS rules surrounding installment sales.
Buyers receive ‘equitable’ title when contract for deed agreements are used. This means buyers can reside in the home or they can use it as rental property. They can make home improvements or renovations without the seller’s approval. This is a nice advantage over lease purchase option agreements.
Lease options are very similar to contract for deed, but there are two primary differences. Buyers do not receive tax benefits and cannot make property improvements. In essence, buyers are tenants until they can obtain financing to purchase the home. They are not obligated to buy the house when the contract expires.
Contract for deed agreements should be executed by a real estate lawyer to ensure they are legally-binding. The terms can be structured to meet the needs of both the seller and buyer. Sellers normally require a down payment, along with monthly installments. However, sellers can elect to defer the down payment until the end of the contract or they can allow buyers to remit additional payments via a scheduled payment plan. The average duration of deed contract sales is 12 months, but this can be extended to suit both parties’ needs.
Deed contracts should include a default clause outlining ramifications if contract terms are not met. Sellers have the right to sue for foreclosure if buyers default on monthly installments. The repossession process varies by state, but typically requires a court order for eviction.
Entering into this type of real estate transaction is not without risk. Both parties should engage in due diligence. Sellers should obtain a current credit report and background check to ensure they are selling to a trustworthy individual.
Buyers should obtain property inspections and appraisals and verify the seller is authorized to sell the property. As long as legal contracts are drafted, due diligence is conducted, and buyers live up to their end of the bargain, contract for deed can be a great way to buy real estate.
Internal Revenue Service – Installment Sales