Most Americans who want to own a house – and can afford it – follow a fairly straightforward path to their dreams. They start with a loan from a bank or mortgage company, institutions that are subject to state and federal regulations. When buyers close on the home they want, the agreement is registered with the government, usually at county offices.
Americans who do not qualify for a conventional mortgage but still want a house to call their own sometimes opt for a thinly regulated financial arrangement called a contract for deed. In these deals, the sellers function like lenders. They collect an initial down payment and then monthly payments.
The buyers in contract for deed agreements usually pay for taxes and insurance and they often pick up the tab for improvements and repairs on the property, even before they have title to it.
Often it’s only when the buyer makes the final payment that the title of the property shifts from the seller to the buyer.
Real estate experts, lawyers and consumer watchdog groups say these arrangements – as well as similarly structured rent-to-own contracts – rarely end with the buyer owning the home. What tends to happen instead is the buyer loses out through a process called forfeiture – often for falling behind on payments – while recouping none of the equity they would have built up in a traditional mortgage.
For example, when the Pennsylvania Attorney General sued a company that did hundreds of rent-to-own contracts in that state, it discovered that only 2% of buyers succeeded in obtaining the deed for the property – signifying that they were now homeowners.
“(Contracts) can be drawn up in a way that makes it almost impossible to succeed,” said Alex Kornya, general counsel for Iowa Legal Aid. “You lose every dollar that you’ve put into that house and the contract seller walks away with a total windfall.
In Iowa, there have been nearly 3,700 contracts for deed recorded at county offices since 2008, according to figures furnished to the Midwest Newsroom by ATTOM, a provider of mortgage data.
The numbers were lower in Kansas, Nebraska and Missouri, but figures likely underreport how many of the deals happen in those states because they have few to no laws requiring that these deals be registered at county offices.
Lance Lowenstein, an attorney in Kansas City, Missouri, says he sees cases involving these contracts about once a week.
“Contracts for deed are kind of like the ‘buy here, pay here’ car lots of the real estate business,” he said in an interview in his office in northeast Kansas City, home to many immigrants and economically struggling communities.
Contracts for deed – also known as land contracts, installment sales or bond for deed – proliferated nationally and particularly in the Midwest in the wake of the 2008 subprime mortgage crisis. Rent-to-own – sometimes called leases with an option to purchase – have similar characteristics that often shift the advantage of such transactions to sellers.
Investors, ranging from small-time buyers with just a few houses to Wall Street hedge funds, swooped in after the housing crisis and bought properties in bulk out of foreclosure or from government-sponsored mortgage buyers Fannie Mae and Freddie Mac. The houses, often uninhabitable or in poor condition and in low-income communities, are typically marketed at those most at risk for exploitation: Black, Latino or immigrant residents
And while attorneys general in states in the Northeast and Great Lakes region have gone after large-scale contract for deed or rent-to-own sellers who use deceptive tactics, attorneys general in the Midwest do not often take enforcement action.
A 2019 study by the Joint Center for Housing Studies of Harvard University outlines an earlier era of contracts for deed in Chicago, where blockbusting and redlining depressed home prices in the 1960s and 1970s. Investors used contract sales to sell properties at inflated prices with high interest rates to people who could not get a conventional mortgage.
“These contracts were designed to fail,” the Harvard study said, “Allowing the seller to reclaim the property, a form of equity stripping.”
Taz George, a senior research analyst at the Federal Reserve Bank of Chicago, said that access to mortgages is an important way for families to build wealth.
George, who co-authored the Harvard study, said lenders rarely underwrite loans in low-income communities where homes are priced at less than $100,000 and often need repairs. So contracts for deed sometimes fill the void.
“Really what we found is that communities that have a high number of land contract sales, have a host of other housing and economic challenges,” George said.
Contracts for deed are marketed as a way for people who can’t get a conventional mortgage to realize the dream of owning a home.To Kornya, the Iowa Legal Aid lawyer, such a pitch echoes that of another enterprise that targets low-income borrowers
“That’s the exact same argument that payday lenders use.It’s nothing new: ‘We need to exploit low-income people because otherwise their lives would be worse,’” Kornya said.
While never ideal, lawyers and experts say contracts for deed can be one of few options for some real estate transactions. Buyers who lack credit history, have damaged credit or who cannot make a down payment often do not qualify for a loan from banks or mortgage companies.
Echoing the Harvard findings, the Joint Center for Housing Studies says traditional mortgage companies are reluctant to make loans in distressed neighborhoods, leaving seller-financed loans or a contract for deed, the instrument of last resort.
“We find that the ratio of new mortgage originations to households is one of the strongest predictors of contract for deed activity,” the study says.
A lack of financial services in low income communities and – increasingly – in rural communities influences the demand for non-traditional lending agreements.
Michael Duffy, a semi-retired attorney who has handled dozens of cases involving abuses of real estate contracts, said in spite of the risks, contracts for deed can be useful with responsible
“I don’t think (contracts for deed) should be illegal,” Duffy said. “They just need to be more tightly regulated. It’s kind of a wild west out there.”