What is a rent to own land contract?
A land contract is a type of real estate agreement that requires the buyer to repay the full purchase price over time – like most mortgages. But instead of a bank lending the money and collecting the payments, the seller keeps the title to the home and accepts monthly rent payments until the property is paid off . The buyer goes by several names, including the grantee, vendee, owner-vendee, parcel vendee and purchaser. The seller goes by the grantor, vendor or seller-vendee. A person entering into a rent-to-own land contract is likely the grantee. Michigan’s Land Contract Act does not distinguish between a mortgage and a land contract. In practical terms, mortgage and land contract agreements are similar, if not identical.
Legal requirements in Michigan
The term rent-to-own is a common phrase, but it may have no legal meaning in Michigan. The law only recognizes the words lease purchase or land contract when describing agreements that convey an interest in real estate. Typical rental agreements do not convey any interest and do not even require recordation. Many people learn that the hard way when a landlord sells the property and the new owner tries to kick out the rent-to-own tenant.
The other risk often overlooked is that Michigan requires agreements of purchase to be in writing if the value of the real estate exceeds $1,000. See MCL 566.108. Michigan’s statute of frauds prevents oral agreements of purchase and that includes agreements for rent with option to purchase. When such an agreement is used to convey an interest in real estate, it must be in writing and must be signed by the party to be charged. Typically tenants make repairs on rental properties with the understanding they will be reimbursed for the repairs when the property conveys. Tenants should document all conversations with the landlord concerning the refusals to reimburse tenants for repairs. Given Michigan’s statute of frauds, any debt of more than $1,000 must be in writing, and the proof of the debt becomes paramount.
Land contracts are an exception to Michigan’s statute of frauds. See MCL 566.108 (3). The required elements of a land contract are: "A provision in a lease for renewal giving the lessee a short lease at the end of the original term is insufficient to bind the parties. For instance, a 5-year lease at $500 a month with a provision that gave the tenant the right to keep the lease going for another 5 years for only $100 a month did not satisfy Michigan’s statute of frauds because there was no definite price for those 5 years. Instead, the price for the renewal was merely the price of an adjacent piece of property at the time of renewal. In order to satisfy the statute of frauds, the facts must support a definite price, such as 1/12 the annual rental, as the price of rent."
The shepherding lease purchase from lease to land contract is only a proposal and is by no means a recommendation. Yet, the shepherding process is the only way I practice to balance the needs of a prospective landlord while limiting the risks associated with Michigan’s land contract requirements.
Advantages for buyers and sellers
Benefits of Rent-to-Own for Buyers and Sellers in Michigan
For buyers, rent-to-own land contracts in Michigan can present a more affordable entry point into homeownership. Rather than putting down a significant down payment along with closing costs and other fees, buyers can move into a home right away, making monthly lease payments and eventually exercising their option to purchase the property. It can also help those whose credit scores are not high enough to qualify for a conventional mortgage to save on the down payment while building equity at the same time.
There is also the inherent benefit of being able to "test drive" the property for a year or more before making the long-term commitment to own it.
For sellers, rent-to-own contracts allow them to receive predictable monthly income for a defined period of time while making progress toward selling the home. The upfront fee can generate some additional income as well, giving the seller a guaranteed stream of income that can confer certain tax advantages.
Finally, the seller also appreciates having a tenant/buyer to maintain the lawn and landscaping, keep the property free from clutter and make minor repairs. This is extremely beneficial as it can help the seller avoid costly maintenance items and be in a better position to market the home for a conventional sale when the term of the rent-to-own agreement has ended.
Potential issues and pitfalls
Common challenges and risks associated with rent-to-own land contracts involve the very areas which give rise to real estate contract disputes in general. These include such issues as missed payments, issues relating to how one party may or may not perform under the contract as well as issues arising from changing market conditions and the availability of financing for the remaining purchase price at the end of the rental period.
Another common issue arises from provisions stating that the tenant shall be responsible for all repairs and maintenance. Such provisions, however, can be a trap for the unwary. In many cases, the tenant’s responsibilites may go well beyond those necessary for the tenancy where he has no intention of purchasing the property but plans to vacate at the end of the term.
Some lease-to-own contracts even go so far as to make the tenant responsible for structural repairs, roof repairs and environmental cleanup of hazardous wastes. Pitfalls abound when drafting, or reading a proposed rent-to-own land contract. The fact is that to an extent such contracts must be individually drafted to address specific property needs and particular buyer/seller circumstances.
How to prepare a rent to own contract
To draft a rent-to-own land contract in Michigan, follow these essential steps:
Legal Requirements: Like all land contracts under Michigan law, the document must contain specific language and provisions required by the Land Division Act. Look out for items like disclosure requirements on the right to a home inspection, language addressing the principal balance, and a provision for default penalties, among others. In Michigan there are also specific limitations on late fees and prepayment penalties if your default provisions are to be enforceable. You must use the proper "Land Contract" form, and it would be wise to have an attorney prepared this document for you, as the form for deeds and other transfer of title documents often vary significantly from land contracts, and each document can have very different implications to the rights of the parties.
Payment Terms: This is the easiest step to determine. Since you will be receiving rental money, decide what the payment amount will be, when those payments will be due (such as monthly) and when the contract, or "Lease-Purchase Agreement" will end.
Property Maintenance Responsibilities: A typical question for landlords is who is responsible for maintaining the property. When renting, the landlord is typically responsible for any issues with the home , but under a rent-to-own agreement, this can get a bit blurry. It will be important to get the terms agreed to before signing the document. Will repairs be taken care of by the landlord or tenant? If repairs are made by the tenant, how much must the tenant pay to have the repair made, and what upper limits would be placed on the costs of repairs before requiring the landlord pay the excess? The answer to this question will help set out the responsibilities of the parties under the contract. It is also prudent to discuss cleaning and maintaining the property, and again what responsibilities would fall under the landlord’s obligations, and which will fall under the tenant’s.
Default: Another important consideration is default provisions. Typically, when renting a property, if the rental payment is not made, the landlord can initiate a proceeding in court to evict the tenant. With a rent-to-own land contract however, the tenant has an interest in the property similar to a mortgage, and the default provisions will generally be set out in the contract. The landlord will need to prepare a particular type of notice that must be served upon the tenant, and give them a specified period of time (30 days) to remedy the default before they may begin the process of initiating a foreclosure action similar to a mortgage foreclosure.
Things to consider for buyers
Tips for Buyers Entering a Rent-to-Own Agreement in Michigan:
When entering a rent-to-own agreement, it is critical to understand your rights and responsibilities under Michigan law. When determining whether entering a rent-to-own contract is worth it, a buyer should take into consideration all of the benefits and burdens that will arise during the transaction. A buyer should carefully consider potential tax implications, including whether rental payments will be treated as property taxes. When a buyer rents a property, they are entitled to reimbursement for any property taxes they have paid if they ultimately purchase the property, as outlined in Mich. Comp. Laws § 554.141(3). Additionally, rent can be included in any taxes paid by the purchaser. The agreement can provide that the rent will be credited to the purchaser’s purchase price, or it can be paid directly to the taxing authority. Id. A purchaser should make sure to get receipt evidencing a payment to the township or county treasurer. Such receipt will provide the purchaser with the right to a refund if the agreement to buy is not completed.
Before entering a contract, a buyer should determine the market value of the property and evaluate whether the contract price is reasonable based on that valuation. The buyer should also determine the extent of any liens or encumbrances on the property that will remain after the sale and assess the risks associated with those encumbrances. It is essential for the buyer to understand all the steps to successfully sealing the deal before entering the contract. Creating a checklist can help ensure that nothing is overlooked or omitted. Finally, it is a good idea to have an attorney review the contract before you sign it to ensure that your rights and interests are protected.
Ending a rent to own agreement
When a Michigan land contract for rent-to-own fails, or otherwise becomes unsatisfactory to one of the parties, the question becomes how to terminate it. As is the case for the formation and performance of such agreements, the process for a rent-to-own land contract termination may be governed by the terms of the land contract itself. For example, if the contract contains a mutual termination clause, the parties only need to adhere to the terms of their agreement. Often the process for this short of a method requires each party to perform some act, such as signing a lease agreement, providing the other with a notice to vacate, etc. Importantly, if the parties have such a termination clause and more than 90 days remain on the agreement, a legal proceeding to terminate the contract — as might be necessary if the tenant/landlord willfully refuses to leave the property — may be costly, take a long time to finish, and require further litigation to be removed from the property. Most importantly, a failure to follow the mandatory requirements for a divided termination under a land contract may also put the parties at risk of incurring court sanctions. If there are fewer than 90 days left on a rent-to-own land contract when the time to vacate arrives, the process can sometimes be accelerated by having the tenant file for a late lease under Mich. Ct. R. 4.201 (2) (for example). Short of a termination clause in the land contract, Michigan law provides the procedures for terminating a rent-to-own land contract. Chapter 554 of the Michigan Compiled Laws governs the implications of conduct of the parties, covenants in the contract, the conveyance of a deed, forfeiture rights, deliverance of possession, and actions for forfeiture. For example, Mich. Comp. Laws § 554.134 sets out the condition that must exist for the conveyance of a deed to be compulsory at a rent-to-own termination . The section specifically states that "if default is made in payment of 2 installments of rent within a period of 60 days, the rent shall be considered to be in default." This mere fact of a rent default, though, is not sufficient for the landowner to hold up the conveyance of a deed. The landlord is required to provide the defaulting tenant with a written notice to pay any amount due under the lease or to surrender possession of the property. The tenant has then 60 days to pay the rent amount; if he or she does so, they remain in the rent-to-own land contract, and the tenant’s ability to stay on the property is preserved. If the tenant has not paid the rent to cure the default at the end of 60 days, the landlord has the option of bringing an action in equity for a specific performance of the sales agreement, or an action for forfeiture — but a party cannot simultaneously sue for a specific performance of the sales contract and forfeiture for any issue arising out of the same act. Entitlement to a particular judicial remedy demands adherence to the requirements for a specific type of request, and not an alternative less likely to succeed and not requested in either party’s pleadings. For him or her to exercise their option to bring a forfeiture action, the landlord needs to have : 1) done all that was required of them for a valid and enforceable land contract, including the proper advance notice of any rent defaults by tenants; and 2) acted in good faith and in accordance with the legal requirements for a forfeiture action. Procedurally, the same rules and considerations for a termination for rent-to-own land contract apply for actions of forfeiture. The parties should seek the assistance of experienced Michigan real estate attorneys to cure any technical problems early, if possible, and to protect their rights under the terms of the land contract.
