When James R. Williams bought a home in Cincinnati from Harbour Portfolio Advisors using a land contract, he "thought he had found a great deal on a home." (1) His monthly payments to Harbour were lower than his previous rent payments, and the money would go towards the $40,000 purchase price of the home. (2) At the end of the thirty-year contract period, Mr. Williams would own the home. (3) Unfortunately, he soon discovered that he faced "around $10,000 in critical repairs to the plumbing system" and his grandson suffered lead poisoning. (4) Instead of being a great deal, the home turned out to be a "money trap[ ]." (5) Mr. Williams's situation is not uncommon. (6) Unlike a traditional bank-financed mortgage, land contracts are directly financed by the seller, and thus give low-income individuals who would not qualify for a bank-financed mortgage a chance to own their ownhome. However, land contracts often come with unexpected and hidden costs for buyers. (7) In many states, land-contract buyers end up spending thousands on basic repairs to make their homes habitable. (8) What a buyer originally saw as a great deal becomes a toxic transaction. (9)
A land contract, also known as an "installment land contract" or "contract for deed," is a "contract for the purchase and sale of real estate under which the purchaser acquires the immediate right to possession of the real estate and the vendor defers delivery of a deed until a later time to secure all or part of the purchase price." (10) Unlike traditional bank-financed mortgages, the seller and the buyer contract together directly, and the seller retains legal title until the buyer has paid in full. (11) While the structure of land contracts varies by state, normally the buyer pays the seller an initial down payment and then makes monthly payments toward the purchase price plus interest for the duration of the contract term. (12)
A land contract typically favors the seller at the expense of the buyer. Like a traditional homeowner, the buyer must pay for property repairs, taxes, and insurance. (13) Yet foreclosure laws typically do not protect contract buyers and, if they miss a payment, they can be forced out of their home, losing any equity they had built up in the property. (14) As one real estate investor described it, in land contracts buyers "have all the responsibilities of a homeowner but none of the rights." (15)
Because land contracts tend to favor sellers, buyers must protect themselves. Many buyers, however, lack the information needed to make responsible decisions. (16) Buyers often enter into land contracts without getting an independent inspection (17) and appraisal (18) of the property. As a result, buyers are often unaware of the true costs of the property they are purchasing. Contract buyers tend to be low-income individuals with less education and often are confused about the terms of the contract itself. (19) Their lack of information makes it difficult for buyers to protect themselves against unscrupulous sellers and is one of the reasons why some advocates consider land contracts predatory. (20)
Because land contracts are frequently inequitable, advocates and legislators have called for enhanced regulation. (21) This Note examines the imbalance of power between sellers and buyers during the formation of land contracts, the ways the law has attempted to lessen the inequality, and how to implement potential reforms. Part II discusses the history of land contracts and their recent resurgence since the 2008 housing crash. Part III explains that while current land contracts are often predatory, land contracts could potentially be a useful way for low-income individuals to become homeowners. Part IV outlines proposed national and state reforms. Part V makes recommendation for future reform and discusses potential obstacles to the implementation of two of the most promising reforms: mandatory independent inspections and mandatory independent appraisals.
When land contracts first came into use in the late nineteenth century, they were "accepted as an innovative and efficient new land financing technique." (22) At the time, courts favored individuals' freedom to contract and the laissez-faire nature of land contracts, which let buyers and sellers negotiate a purchase without the involvement of third parties. (23) But in recent years, land contracts have become increasingly predatory as sellers take advantage of land contracts' unregulated nature.
The 1950s and 1960s
In the first half of the twentieth century, land contracts were largely used by members of minority groups who were shut out of the traditional homebuying market. Racist lending practices prevented African Americans from receiving bank-financed mortgages, so they turned to land contracts. (24) For example, in Chicago an estimated eighty-five percent of African-American homeowners purchased their home with a land contract. (25) These sales heavily favored the sellers and were often unjust. (26) As is still the case, buyers rarely completed the contract term and obtained legal title. (27) Instead, they fell behind on payments and lost their homes. (28) The practice "stripped wealth from African-American communities and led to 'debt peonage or impoverishment for many black contract buyers, and... decay of the communities in which such sales were concentrated.'" (29) While civil rights activism and the 1968 Fair Housing Act decreased direct housing discrimination, "[t]he legacy of credit discrimination from the early part of the 20th Century created fertile ground for the predatory lending practices" low-income buyers face today. (30)
Resurgence After the Great Recession
Land contract use persisted through the twentieth century and into the early 2000s, (31) but it was not until after the 2008 subprime mortgage crisis and the Great Recession that land contracts saw an increase in popularity. The real estate market collapse left many foreclosed and vacant homes that had the potential to be converted into affordable housing, but banks were wary of making loans for lower-priced homes. (32) Furthermore, even if banks were willing to finance affordable home sales, many individuals came out of the housing crash with poor credit and thus were ineligible for bank mortgages. (33) With the traditional home-buying path inaccessible, potential homebuyers turned to land contracts.
Collecting reliable data on the prevalence of land contracts in America is difficult because the contracts often are not recorded, (34) but research shows that the use of land contracts has increased since the Great Recession. In Minneapolis, land contract sales increased fifty percent from 2008 to 2013. (35) In the Southeast, sales increased from 2008 to 2013 and then have remained steady or slightly declined. (36) In 2015, there were more land contract sales in Detroit than traditional home mortgage sales. (37) At least three million people nationwide have purchased their homes with a land contract, (38) with sales concentrated in minority communities. (39)
There has also been a significant shift in who sells land contracts. Before 2008, land contracts normally involved individual sellers who owned a small number of properties. (40) Since then, investment firms have become key players in the market. Private investment firms took advantage of the large stock of foreclosed homes after the Great Recession and bought many houses at low prices. (41) The biggest firms in the business have bought thousands of homes in multiple states. For example, Harbour Portfolio Advisors purchased more than 6700 foreclosed homes and sold them to homebuyers through land contracts. (42) Another company, Vision Property Management, "owns more than 6,000 homes in two dozen states." (43) Apollo Global Management is investing millions into land contracts. (44) Compared to the highly regulated home-mortgage market, land contracts give these investors the freedom to structure deals to their advantage and allow them to sell to people who may be eager to own a home, but are unable to get a bank-financed mortgage.
PREDATORY NATURE OF MODERN LAND CONTRACTS
The Conflicting Interests of the Seller and Buyer
In a traditional home sale, the interests of the seller and the buyer are aligned: both parties want to transfer ownership of the home from the seller to the buyer. (45) In a land contract sale, however, the interest of sellers can be "exactly opposite to those of the buyers." (46) Similar to a traditional home sale, contract buyers generally want to obtain fee simple title of the property. In contrast, contract sellers, especially private investment firms, are primarily interested in making as much profit from each property as possible. (47) often, the seller can make more money if the buyer fails to complete the monthly payments of the contract period because then the house is turned back over to the seller, who can market it to another buyer. (48)
Land contracts become predatory when sellers pursue their profit margin at the expense of buyers' interests, and the lack of an independent financier exacerbates the problem. In most traditional home purchases, the bank financing the transaction and the buyer have similar interests: to ensure that the buyer will be successful in purchasing the home and paying back the financer's loan. A traditional financier may require or provide certain measures "such as a title search, title insurance, and a property survey and appraisal" which would help protect the buyer. (49) But in a land contract, the seller is also the financier. Thus, instead of the financier's interest aligning with the buyer, in a land contract the financier's interest is the seller's interest. Without an independent financier, buyers must rely on themselves to evaluate a seller's offer and can easily fall victim to contract sellers' traps.
Predatory Nature of Land Contracts