Buying a house on contract — also known as using a contract for deed — is when the buyer and seller make a financing agreement instead of having the buyer take out a mortgage. Contract for deeds might be used to purchase residential property, investment property, or land.
Using a contract for deed to buy a house can provide an easier path towards homeownership, especially for people who can’t afford a down payment or have lower credit scores — but there are some disadvantages of this arrangement that you should be aware of.
Keep reading for more insight into how this type of seller financing works and more about contracts for deed agreements.
Buying a house on contract looks a whole lot different than if you were to buy a house using a traditional mortgage, or even an all cash offer. When someone buys a house on contract, that means the seller is agreeing to finance the purchase for them. The way this works is that the seller takes on the role of the mortgage company.
After both parties agree to a sale price, the buyer will make installment payments to the seller. The seller will maintain the legal title and rights as the property owner until the buyer pays the seller back in full according to their purchase agreement.
Typically payments for a contract for deed only last for a few years (unlike a mortgage, which is usually 30 years) and end with a larger final payment, referred to as a balloon payment. Once the payments are complete, the seller will use a deed to convey the legal title into the name of the buyer, who now owns the home.
Potential homebuyers may consider buying a house on contract if they are unable to qualify for a loan from a bank, credit union, or other mortgage lender. The benefits of buying on contract mean:
If someone doesn’t have a large down payment saved, buying a home on contract may work in their favor since the seller decides how much of a down payment they require, and it may not be the standard 20% that lenders prefer. (A down payment of less than 20% can lead to paying for private mortgage insurance if you take out a mortgage loan).
Credit scores usually don’t carry the same amount of weight with the seller when you use a contract for deed as it does when you get a mortgage. Sellers can determine what makes a buyer “creditworthy” in their eyes, and they don’t have set standards for credit scores like mortgage lenders do.
You can request that the seller report your on-time payments to major credit reporting bureaus each month, which can help you build a stronger credit score. (Keep in mind that they can also report any late payments, which will have the opposite effect.)
Contract deeds don’t require the same origination fees, closing costs, settlement costs, or application scrutiny that a mortgage loan does. Both the seller and buyer might save on fees with this arrangement.
In many ways, purchasing a home with a contract for deed is a much more straightforward and efficient process than taking out a mortgage loan. That being said, there is a lot of risk associated with this type of home purchase.
Mortgage lenders require home inspections and appraisals before approving home loans, but these routine protocols won’t be required in a contract for deed arrangement. That means you may not be aware of any issues with the home (like structural issues or water damage) or whether you’re paying a fair price for it.
Here are some more drawbacks to using a contract for deed:
Since the risks of buying a house on contract are steep, it’s best to only enter this type of arrangement with someone you trust, like a family member or relative who wants to sell you their home in a more obtainable way.
With contract deeds, the buyer and seller work together to create a contract that works for them. It can be faster, more convenient, and less expensive to create a contract for deed than it is to take out a normal mortgage loan, which has an extensive approval and underwriting process.
A contract for deed includes many of the same things as a traditional real estate contract, including:
If you decide to use contract for deed arrangement to buy a house, check out these tips that can help make the whole process go a lot smoother.
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