Occasionally, real estate transactions do not involve a lender and only involve the seller and the buyer. In cases where the buyer is not paying cash for the property and there is no third-party lender, the seller can agree to extend credit to the buyer and secures the buyer's promise to pay for the property.
Seller financing occurs infrequently. It is used primarily in situations where the seller desires the tax benefits of an installment sale, for estate planning, or when the property offered for sale does not qualify for conventional financing because of structural or other issues.
When seller financing is the method of purchase, there are three common contracts in use: the Purchase Money Mortgage, the Purchase Money Trust Deed, and the Land Sale Contract.
Purchase Money Mortgage
With a purchase money mortgage, the buyer will sign a promissory note and execute a mortgage in favor of the seller. In essence, the buyer is promising to pay a specified amount of money over a specified time for the purchase of the seller's property. The buyer gives the seller a mortgage that becomes the security instrument for the buyer's promise to pay. There are two parties to a purchase money mortgage: the mortgagor (the buyer) and the mortgagee (the seller).
As in the case of the traditional mortgage, the buyer is the owner of the property and has actual legal title, while the seller has a lien against the property.
Purchase Money Trust Deed
The buyer will sign a promissory note and execute a purchase money trust deed in favor of the seller. In essence, the buyer is promising to pay the seller a specified amount of money over time for purchase of the property. The trust deed becomes the security instrument for the buyer's promise to pay. The purchase money trust deed is similar to the traditional trust deed, but the seller, rather than a third-party lender, is the beneficiary. As is the case of the traditional trust deed, the buyer is the owner of the property and has actual legal title. The seller has a lien against the property by way of the purchase money trust deed. The trustee will be any of those permitted under trust deed law.
Land Sale Contract
This can also be referred to as an installment sale contract, land contract, or contract for deed. The contract can be used for raw land or improved real estate, not for just land as the name would suggest. The land sale contract sets out the terms for payment and delivery of deed.
There are two parties to the land sale contract. The seller is known as the vendor, and the buyer is known as the vendee. The land sale contract sets out the financing arrangement between the seller and the buyer. Because the vendor retains title to the property until the vendee has fulfilled all obligations under the contract, there is no lien against title. Because the buyer does not have title and does not receive a deed conveying title until all of the terms of the contract are performed, from the buyer's standpoint, the land sale contract is the least desirable method to use when seller financing is involved.
In addition to specifying the amount and terms of payments, land sale contracts require the vendee to pay property taxes when due and keep the property adequately insured. Another typical contract provision prohibits the vendee from committing waste, which means that the vendee cannot do anything that might damage or destroy the property.
Within the contract, the vendor and vendee are able to stipulate remedies if the vendee defaults such as a suit for installments or a suit for specific performance.