Land Contract, Owner Financing Question

[Brett Snodgrass]

Hi BiggerPockets,

I know this Question in being Beat to Death, and sorry if its repeated on an earlier Forum questions, I have read earlier posts, and just want to see if anyone has a clear answer on my situation.

I don't do a lot of Land Contract Sales, (Mostly do Fix-n-Flips and Wholesale) Been Investing 7 years, and have only done 7 Land Contract Sales.

But, I always get the Question, especially from Owner-Occupant Buyers "Do you offer Seller financing?" In the Past, I would always Say, "Yes, Depending on your Down Payment, How Much can you put Down" and if they could put enough, I would entertain the thought, but most can't put much down.

Well, Then Frank Dodd Came out, and for some reason, this year I had a person ask if I seller Financed, and I did a land contract with an owner-occupant Buyer, because they put down 10K, on a 40K Purchase price. That was my only 1 for the year.

Well, I have another house, Again, 40K Purchase Price, and Buyer asked if I offered Financing. I said if they put down 10K, (Thinking they wouldn't be able to", and they said ok, and They want Seller Financing.

This first house was in my IRA.

The 2nd house is in my Corporation.

So this would be #2 for the year. Is there anything that I could put in the land contract for go around Dodd Frank? I know it said I could do up to 3 in a year, but would need a mortgage originator? Does anybody know if an independent Originator in Indianapolis, IN? Any advise on this would be great. Again, I don't plan on doing more than 3 this year, but I just want to run the business right.....

Thank you,

Brett

[Bill Gulley]

Bret, welcome to BP!

Land contracts or Contracts For Deed (CFD) were (perhaps still are in some areas) the most popular installment contract. It comes out of the oldest installment theories from share cropping, performance required to obtain titled ownership of land. It was my favorite arrangement!

They were my favorite, but no longer. The issue, post balloon popping in RE, much greater attention has been given to predatory lending and dealing, to flawed financing agreements, to ways of litigating security interests and financial interests. It's not just Dodd-Frank or the SAFE Act, but these Acts have put teeth in compliance requirements, but there are other issues as well that are of more concern.

Two primary arguments:

1. The security arrangement made by executing a Quit Claim Deed together with the agreement of holding in escrow or in trust and filing the deed in the event of default circumvents foreclosure laws in all states. "Laws of Equity" are being applied requiring foreclosure. Since the terms of a deed of trust or mortgage are not part of a CFD, there is no non-judicial process agreed to, so in those states that allow a non-judicial process such actions are not available. This means the lender must then follow a judicial process to foreclosure. Several states have adopted foreclosure requirements when amounts of equity have been obtained by a buyer, 10% being the tipping point.

2. Another issues is that in most areas an executed deed is effective when it is executed, not filed for record. Executing a Quit Claim Deed dated the date of can cause claims of terminating the effect of the Warranty Deed made the same date. What is the outcome? I have no idea, but the argument of such a claim has the possibility of being successful. Basically, I see this as a basis for the agreement to be overturned if a judge was so inclined and order the return of possession and funds to cure other related matters lacking sufficient basis in law to cure the matter equitably. The court may do pretty much whatever it sees fit, no attorney can guarantee what a judge may or may not do. I'm not an attorney and I certainly can't tell you what may happen, but the point is, executing two opposing deeds to the interest in title can be a problem.

These issues have little to do with the Acts mentioned. Homeowner's can be exempt from these Acts selling their primary residence. In some areas, a small dealer is exempt from origination requirements. You may or may not be exempt from these Acts.

If you are required to comply, a mortgage originator will need to process and originate the financing agreement. In reality I can tell you there are very few originators that are comfortable originating a seller financed note and deed of trust or mortgage, much less a CFD, you might as well look for hen's teeth. The originator will most likely tell you to do a note and deed of trust or mortgage.

Now, let's assume you are exempt. Many seem to think that if they are exempt from a requirement that they are then free to do whatever they can devise, that is horrible thinking and totally not the case. A judge and/or any jury looks to the "Prudent Person" aspect of a transaction and what is expected level of conduct. The Acts mentioned have established a base line of expected conduct, what is considered prudent. You may technically be exempt from meeting an income ratio as may be required but if you are not even close you can fall into the catch all area of predatory dealing and predatory lending. This is true with any financing arrangement but any failure to act in a prudent manner falls on top of the issues mentioned above concerning the circumvention of law and executing opposing deeds in interest.

Now Bret, in your past CFD, you have taken 25% down and there will be no question as to laws of equity being applicable. If you deal blows up and you file a Quit Claim Deed you stand to answer in a matter of a wrongful foreclosure. The penalty can vary but you could stand to lose twice the value of the lien foreclosed upon plus fines. Circumventing state foreclosure laws may be another charge, if predatory dealing or lending is seen, those are additional issues to address.

Being in the business of real estate takes on additional responsibilities than a homeowner. There are some that bark about Constitutional Rights, they lack a basic understanding of Rights of the State to control commerce and being in the business of means you are under consumer and commercial compliance requirements, like it or not, that is the reality that must be dealt with. Being in the business you will be held to a higher standard of conduct and you will be seen as having the advantage of knowledge. Another matter is that any contract that is seen as improper or carries favored treatment of the party who drafted the agreement can be interpreted to the detriment of the party drafting the agreement.

Bret, I advise you not to do another CFD, being in the business significantly will put you in the requirement to comply with the Acts mentioned. Most likely you'll be in violation.

If you are collecting payments on the CFD that you made, depending on its date, you can be in violation of servicing requirements, again, if you are exempt it will still be difficult for you to perform such aspects under prudent expectations. If you are not exempt, I can assure you as an individual or small operator, the requirements would be an impossibility for you to perform in reality.

Is there some way around Dodd-Frank and the SAFE Act? No! The language used states that any method or strategy devised that circumvents the intent of the law will be subject to compliance. Seems the anti-D/F, SAFE Act gurus are missing this aspect.

For these reasons, the CFD has fallen out of favor with me. Under my mortgage company we serviced these contracts in a 7 state area and without much concern at that time, today I would not devise a CFD as they use to be accomplished.

You can avoid these issues by using a note and deed or trust or mortgage with an agreed and proper security interest perfected. If you have an underlying mortgage, as is common with the old CFDs, you should use a Subject-To type transaction.

One last issue with CFDs. They have been poorly drafted for decades and my bet is that what ever you may get your hands on as an agreement that I could cut it up like a hot knife going through butter. In the past, after pointing out issues with CFDs (prior to the Acts mentioned) several attorneys, in several states, agreed to stop doing them altogether. They learned that were underlying areas of liability that they didn't want to accept. They were not qualified to underwrite financing agreements for homebuyers. Neither are investors, especially today. Some of the issues that I recall include the following:

Application of principal improperly applied or stated.

Hazard insurance arrangements were more expensive than required.

Deeds improperly held for safekeeping (this was a big problem with lost deeds)

Life events, death, incapacitation, divorce, bankruptcy were insufficient as installment contracts involve individuals rather than corporate entities.

Wrongful foreclosures arising due to the lack of specifics as to default provisions as opposed to state laws (such as unpaid insurance or taxes where funds are advanced by a lender to pay such items and then made a part of the amounts owing to bear interest, such matters not constituting a significant default)

Predatory dealing, a sale price grossly above market value.

Contracts made that were impossible or improbable for a buyer to perform. LTV, balloon requirements, available financing alternatives, all another predator issue.

Notices required failed to meet statutory requirements. Notices of payments and demand to accelerate amount due.

Underlying liens improperly accounted for to be assumed. Escrows improperly assigned.

These are the areas that pop to mind right now, there is a thread on BP listing over 100 issues with improper arrangements , most of which by another poster, I just filled in additional issues.

Another post by Ken Rishel concerning compliance listed about thirty federal agencies having regulatory oversight in one area or another that can effect seller financed transactions.

My bottom line advice is for investors not to be so confident or assuming as they were ten years, ago or even three years, ago today in originating seller financed transactions, especially to owner occupant buyer/borrowers. In many cases it may not be enough just to go to an attorney, especially the occasional practitioner in real estate.

Here is a link that goes into more depth of the matter I addressed above:

http://www.atgf.com/tools-publications/pubs/deeds-lieu-foreclosure-advantages-disadvantages-and-drafting

I suggest you read it all.

Good luck! :)