What is the worst?  Since you are going to stay in control, keeping the home insurance and taxes paid, you are not in jeopardy of losing the home to a fire or of having the property tax authority taking over your home because of an unpaid bill.  That would be really bad.  YOUR buyers have the ability to pay you slowly, sometimes nothing for a while.  But you will keep your payments up; therefore, your interests in the home are protected.

The most realistic and likely negative thing that could happen goes something like this:  You meet a nice family, down on their luck and in need of help.  You look at their credit and hear their story – although they lost a home to foreclosure 8 months ago, their story of a job loss checks out on the tax returns, and his new paycheck stub says that they can again afford to make a payment. You negotiate a deal.  So far so good.  You close on the land contract and await your first payment, which you expect to receive the first of the following month.

It arrives with coffee stains on it and slightly torn on the 14^th.  You breathe a sigh of relief and pray that this is not a trend.  Your prayers are answered, but not in the way you imagined.  Next month you get no payment.  After talking with the nice man, you are convinced that he will pay you something soon.  Then half a payment comes.  Then nothing for a while.  Then more time, and nothing.  Then a payment.

Then, you get nothing for a few months, and they do not return calls.  You get out the Michigan Bar Association white paper you read six months ago and decide to get going on the process.

Three months later, the buyer is forced to leave the house.  You feel badly for them, but you remember that your profit motive is not wrong and you also remember that you offered help along the way more than once.  Your purpose was to serve.  It just didn’t work out.

The next morning, you muster the courage to walk into the house for the first time since handing over the keys and as you open the door . . . .

. . . I’ll let you write your own nightmare here.  In fact, I would have to make one up myself, because other than a few missing appliances and some ruined carpet and paint, I have not personally experienced or heard any actual “horror” stories first hand.  I’m 38 though, and someone older and wiser might recall stories (legends) from the 80s – the last era where Land Contracts gained a ton of market share.

We need to be aware of risks and we can do A LOT to avoid them.  We cannot control other people, however.

Understanding that everyone is motivated first by their own best interest (you included) it is possible to put a deal together where the above is really not all that likely.

Most of the time, even if the buyer walks away from the home, if you have kept a good rapport with them, they do it quietly.  If you collected a few thousand dollars up front for a down payment and you made some money along the way in their payment to you, then you will have enough money to go into the home and get it ready for lease or list again.

It’s not personal, it’s business.

Keep reading: tomorrow we talk about the Due-on-Sale Clause – you won’t want to miss it.

Here are some helpful tips to remember:

1.  Keep a good rapport with the buyer – This is may be the best advice I can give.  Remember, you are helping a family that might not have the credit standing to get into a traditional home loan. Help them out.  Stay in good communication with them.  Help them where, when and how you can.  This deal doesn’t work for you if it doesn’t work for them.  In the event that your buyer needs to walk away from the deal, make sure they know that you were rooting for them all the way!  Why?  Not to mention the fact that you really do care about these folks, you also want to smoothly transition from them in your old home to your next tenant, your next buyer, or to a quick list and sale with a Realtor.  The better your relationship with your buyers, the easier and less expensive that transition will be.  My brother and I have always said: you pick your partners (and your land contract buyers) for how they will act in tough times as much as in good.  Stay close to them.  Help them.

2.  Know your rights.  Do the research.  Even talk to an Attorney.  If you had to foreclose on this buyer (take possession of the property back from the buyer legally) do you know what your first step would be, and can you see it through financially?  No one wants to get an emergency education. It’s always a nicer experience to educate oneself in advance rather than under the gun.  I’ve found that knowing how the system works for Land Contract sellers made me more willing to participate.  It’s not tremendously ugly – it’s just something you want to know ahead of time.  The link below is to the Michigan Bar Association white paper on Land Contracts.  It explains “forfeiture” which is a far easier and less expensive way to take back a property.

Read this:  http://www.michbar.org/realproperty/pdfs/LandContract.pdf

Also, make sure you know of an attorney ahead of time who can read through your contracts and make sure you are setting this up correctly.  A little money invested up front is valuable insurance in the event you need to pursue your rights under the law.

3.  Keep cash reserves from the buyer’s down payment.  You should have 6 months of your house payments in a side fund if you are planning to sell your home on land contract.  Remember, you could end up with the home back in need of sprucing up.  Make sure you keep a healthy emergency fund.  12 months would not be too much, 6 months is a good minimum amount. Then let the payment differential accumulate for a while.

4.  View this as a lease until it’s done.  Even though this is a recorded sale, you really do not have your home fully sold until you have signed over the deed and collected all of the money (and paid off your mortgage if you have one).  The best mindset to have until that happens is that you are still a landlord.  It’s great when these deals come to completion, but if yours doesn’t, don’t get all emotional about it.  This is just business.  You keep their down payment and deposits, get the necessary forfeiture paperwork signed and move on.  You will likely come out even or ahead if you set it up right at the beginning.

5.  Keep the home insurance with YOUR agent as the seller and maintain the right to pay taxes and insurance on behalf of the buyer.  The buyer pays you each month and then you keep that money for the annual payments to the taxing authority and home-insurance agent.  You do not want to leave tax payments and insurance up to the seller: if they went unpaid, your interest in the property would be compromised.

6.  Encourage the buyer to stay on track to clean up credit or to close whatever the gap is to their mortgage approval.  I suggest giving a reduction in the payoff in the end if the buyer gets the contract paid off or refinanced early.  If the land contract term is 3 years, then give them $1000 off if they pay you off in two.  Make it profitable for the buyer to succeed.

7.  Don’t make the Land Contract terms too attractive.  I usually suggest an interest rate over 7 or 8%.  The mortgage rates in two years will be what your buyer has to take to do the refinance.  We want the payment on the new mortgage to be at or below the payment they are making to you, and for two reasons:  first, because you are taking risk that should afford you a greater than market payment; and second, we want the buyer motivated to refinance.

8.  This one may go with out saying, but make sure that your buyer always owes more to YOU than YOU owe to your lender.  That way, when the buyer pays you off with a mortgage, you don’t have to put money down to pay off your loan.  This could especially be an issue if you have an interest-only mortgage and your buyer is paying down the loan.  Never be caught owing more than is owed to you without being prepared for it (e.g. cash of an equal amount in a side fund somewhere).

9.  Make sure you record the land contract and transfer the property to the new owner. This is a full sale and the lower property taxes as well as any home buyer credits are predicated on whether or not this was a real sale.  Make this real.  Unrecorded land contracts are not real sales and will not allow for any of the benefits of real ownership.

These are just a few thoughts to consider as you are putting your deal together.  Tomorrow’s post will talk about one more item that I did not get into today – The dreaded “Due-on-Sale Clause”!  If you have a mortgage on the home you are trying to sell, be sure to read tomorrow’s post.

home mortgage