What Is a Land Contract and How Does It Work?

A land contract is an agreement that allows a buyer to purchase a home directly from a seller without involving a traditional mortgage lender. While land contracts can provide a path to homeownership for people who don’t qualify for regular financing, it’s important to understand how these contracts work and their potential drawbacks.

How does a land contract work?

When you buy a land contract, you agree to take ownership of a property and make payments to the seller — who essentially acts as your mortgage lender — until the purchase price is paid in full. Land contracts are a form of owner financing for buyers who don’t qualify for a traditional mortgage loan, perhaps due to bad credit or a prior foreclosure or short sale.

You can use a land contract to buy various types of real property, including:

→ Vacant land
→ Houses
→ Apartment buildings
→ Commercial buildings

While paying for the home, the buyer has an equitable title. This means the seller can’t transfer ownership to a third party or place any liens or encumbrances on the property that could affect the buyer’s investment. The buyer receives the legal title to the home once they make the final payment on the land contract.

How to buy land contract homes

Here’s a step-by-step overview of how a buyer would find and enter into a land contract:

1. Find a land contract home

Identifying a land contract property can take time, but options are available. You can start with an online search, using terms like “seller-financed land near me” and “land contract homes for sale.” A real estate agent can also help you identify homes in your area.

2. Negotiate the purchase agreement terms

It’s a good idea to work with a real estate lawyer to negotiate clear terms and draft documents for a land contract, including the purchase agreement. The purchase contract should contain various details about the transaction, including:

• The home’s full address
• Purchase price
• Down payment
• Monthly payment amount
• Payment term length
• Balloon payments

3. Do your due diligence

The best way to avoid costly surprises down the road is to conduct thorough research about the property you hope to buy. Common due diligence steps include:

→ Completing a title search. A title company can examine public records to confirm the legal ownership of the property as well as the existence of any claims or liens.

→ Using an escrow service. Placing the deed with a third-party escrow company until the contract is repaid helps ensure everyone holds up their end of the deal.

→ Arranging an inspection. A home inspection will establish the home’s condition, structural elements and exterior, as well as its major systems (like electrical, plumbing and heating).

→ Getting an appraisal. The buyer usually pays for the home appraisal as part of their closing costs. Without a professional estimate of the home’s value, you won’t know if you’re overpaying for the property.

4. Sign the land contract

Once you sign the land contract, you’ll have equitable title — the right to occupy and later take possession of the property. However, the full title transfer doesn’t occur until the loan is fully paid off (unless it’s a wrap-around contract).

5. Move into the home

The buyer gets to take possession of the property before paying off the loan and gaining legal ownership.

6. Begin making installment payments

Your monthly land contract payments may be sent directly to the seller or made through a servicing company. If you fail to make payments or meet other contract terms, you forfeit your rights to the property and lose the fees and payments you’ve already made.

7. Pay off the loan

Once you pay off the contract or refinance, the deed will be filed with the appropriate government agency, and you’ll officially own your home.

Land contract pros and cons

Pros

 Easier to qualify. Land contracts typically have more flexible requirements than traditional mortgage loans. Since land contracts are issued through the seller instead of a lender, you may be able to qualify with a lower credit score.

 Lower closing costs. Closing costs for a land contract might be less than the costs involved with a regular mortgage. For example, you likely won’t have to pay loan origination fees.

 Faster closing process. Closing on a land contract may be faster than a standard mortgage loan, since you don’t have to go through the lender’s underwriting process.

 You might be able to refinance. Once you improve your credit score, you might be able to refinance your land contract with a traditional mortgage lender.

Cons

 Higher purchase price and interest rate. Land contract sellers often charge a higher purchase price and interest rate to account for the higher risk. This means you may end up paying more for the same home compared to using traditional financing.

 You forfeit the rights to the property if you default. If you default on the land contract by missing payments or violating the contract terms, the seller can keep the payments you’ve made so far, as well as the property itself.

 Fewer protections. Since land contracts are less regulated than standard mortgage loans, there are fewer safeguards in place in the event of a foreclosure.

 Legal title is withheld until the contract is paid. In most cases, you don’t receive the full legal title to the property until you pay the land contract in full.

Land contract alternatives

Land contracts aren’t the only way to buy a home if you don’t meet minimum mortgage requirements. In fact, various resources are available for borrowers with bad credit and limited financial means. These options include:

A no- or low-down-payment mortgage

If making a large down payment is standing in the way of your homeownership goals, there are government-backed mortgage programs that can help. FHA, VA and USDA loans all require small down payments toward a home purchase. Here are the down payment requirements for these programs:

→ FHA: 3.5% down payment with a 580 credit score or higher; 10% down payment with a 500 to 579 credit score
→ VA: 0% down payment
→ USDA: 0% down payment

You can put down as little as 3% with a conventional loan — however, you’ll need a minimum 620 credit score.

  Don’t know your credit score? Get your free score on LendingTree Spring today.

First-time homebuyer programs

If you’re buying a home for the first time, you may qualify for a first-time homebuyer program that’s designed to help make homeownership accessible to more people. These programs often include down payment assistance and grants. Here are some examples of first-time homebuyer programs:

• Fannie Mae HomeReady®. Available to low- and moderate-income homebuyers, this program offers loans with down payments as low as 3% and reduced private mortgage insurance (PMI). You’ll need a minimum 620 credit score to qualify for this loan.
• Freddie Mac Home Possible®. This program is also open to low- and moderate-income borrowers. Similar to Fannie Mae HomeReady, Home Possible down payments can be as small as 3%. The minimum credit score requirement is 660. However, borrowers without a credit score may qualify with a 5% down payment.

  Learn more: Comparing the HomeReady and Home Possible loans