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An agreement between the seller (vendor) and buyer (vendee) for the purchase of real property in which the payment of all or a portion of the selling price is deferred. The purchase price may be paid in installments (of either principal and interest or interest only) over the period of the contract, with the balance due at maturity. When the buyer completes the required payments, the seller must deliver good legal title to the buyer by way of a deed or assignment of lease (if the property is leasehold property). Under the terms of the contract for deed, the buyer is given possession of the property and equitable title to the property, while the seller holds legal title and continues to be primarily liable for payment of any underlying mortgage. The features of the buyer’s equitable title and obligation to purchase distinguish a contract for deed from a lease-option.

The contract for deed document must meet the requirements for any contract and will also contain a lengthy statement of the rights and obligations of the parties, similar to those under a mortgage, including use of premises, risk of loss, maintenance of premises, payment of taxes and insurance, and remedies in case of default. Specific rights, such as acceleration or the right to prepay without penalty must be expressly written into the agreement. The contract is usually signed by both parties, acknowledged, and recorded.

The contract for deed is used extensively in many areas, where it may be called a land contract, agreement of sale, installment contract, articles of agreement, conditional sales contract, bond for deed, selling under contract, or real estate contract. They are useful in a tight money market where if it is difficult to qualify prospective buyers for conventional financing, the contract for deed is frequently the best method to sell or purchase a property. Others who benefit are first-time buyers or immigrants, who might have difficulty qualifying for a bank loan at the time of entering into the contract for deed, but whose incomes will increase before maturity of the agreement, enabling them to refinance and pay off the contract for deed.

Sellers may prefer to sell on a contract for deed because it can create an installment sale, which enables them to defer payment of a portion of tax. In addition, if the buyer defaults, the seller can sue for strict foreclosure, something he or she cannot do with a mortgage. However, a seller who chooses this remedy is rescinding the contract and cannot seek a deficiency judgment for the unpaid balance.

Some contracts for deed provide that seller and/or buyer can convert the contract into a conventional security transaction. For example, upon payment of 40 percent of the purchase price, the seller may be required to deliver a deed and take back a purchase-money mortgage from the buyer for the balance of the purchase price.
Use of a contract for deed is not without some disadvantages. From the buyer’s viewpoint:
n Because the seller need not deliver good marketable title until the final payment, the buyer must, at the risk of default, continue to make payments even when there may be a doubt whether the seller will be able to perform when all payments are made. Some attorneys include a clause that “the property is to be conveyed free and clear of all encumbrances except (those specified herein) and to remain free and clear except for the above-stated encumbrances.” The seller is then discouraged from placing further mortgages and encumbrances on the property during the period of the contract for deed.
n The buyer may have difficulty getting the seller to deed the property upon satisfaction. By withholding a large enough final payment, the buyer often can persuade a seller to pay the costs of drafting the deed. In addition, at the time of final payment, the seller might be suffering a legal disability or be missing, bankrupt, or dead, and the property might be tied up in probate.
n The buyer might be restricted from assigning his or her interest in the contract for deed by covenants against assignment.
n Liens that arise against the seller could cloud the title.
n Unless a collection account is used, problems could arise if the seller does not apply the buyer’s payments to the underlying mortgage.
From the seller’s viewpoint:
n If the buyer defaults, the process of clearing record title may be time-consuming and costly, especially if the buyer is under a legal disability, is bankrupt, is a nonresident, or has created encumbrances in favor of persons who might have to be joined in any quiet title action.
n The seller’s interest in the contract for deed is less salable than a mortgagee’s interest would have been had the seller sold under a purchase-money mortgage.
n By its very nature, the contract for deed is a contract, and all contracts are subject to differing interpretations with the possibility of disputes and litigation.
Dearborn Real Estate Education
This "Word of the day" is excerpted from The Language of Real Estate, 6th Edition by John Reilly (published by Dearborn Real Estate Education, 2006 copyright). To purchase the complete book, with over 2800 key terms and definitions, or to browse through Dearborn's hundreds of other professional real estate titles, including Real Estate Technology Guide by Klein, Barnett, Reilly, click here.