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Overview of Bad Credit Mortgage Contract for Deed

This is an unusual type of mortgage instrument, and depending on your state, has a plethora of different names including: Land Contract, Agreement for Deed, Contract Sale and Real Estate Installment Agreement. Though referred to by varying terms, its purpose is the same to allow borrowers to bypass banks and mortgage lenders and make payments directly to the seller.

The seller retains the title until the buyer has paid off the entire amount. The seller must also continue to pay any underlying mortgages that exist on the property, presumably, from the proceeds of the monthly payments being provided by the buyer. In a sense, the seller is acting both as seller and as banker, since the seller is actually self-financing the property. Since the seller still holds legal title to the property, the contract is 100 percent secured, and the seller can declare the buyer to be in default for nonpayment, repossess the property, and keep all the money that has been paid to date.

A Contract for Deed is often entered into when a seller has a property that may need substantial repair and would not quality for a conforming bank loan, if the house is in a blighted area, or if the buyer has poor credit and would not qualify for a bank loan. The decision to do business with the buyer does not have to pass by any lending committee, and does not have to meet any minimum standards.

The decision is solely up to the seller, and is sometimes still done merely on a handshake and a promise. Although the seller does not get all of the proceeds immediately, the seller does have the advantage of retaining title and calling all the shots, and often, selling a house that would otherwise not be saleable.

The buyer gets the advantage of working directly with the seller, who may be much more lenient than a bank or mortgage lender. On the downside, the buyer must trust the seller to pay off any underlying mortgage notes, and have clear title at such time all payments have been made.

The Contract for Deed may be an excellent way to buy a home with poor credit, and an excellent way to establish credit. Since the Contract for Deed is a negotiable instrument, it can be bought and sold at any time by the seller, who may choose to sell the contract at a discount to a broker or investor. Often, it is used as a way to get into a home and later finance it through a conventional lender; for example, the Contract may have a balloon payment two years out.

The advantage of the balloon payment arrangement is that it gives the buyer an opportunity to accumulate two years of timely payment history, and two years of equity, and so when the balloon payment comes due, it will be much easier to refinance the property through a conventional lender, pay off the balloon, and have established excellent credit in the process.