Attorney General Ellison warns Minnesotans to avoid contract for deed pitfalls and scams

May 29, 2024 (SAINT PAUL) — Today, Attorney General Keith Ellison issued a warning to Minnesotans about possible risks when buying a home on a “contract for deed.” Contracts for deed, where the buyer pays the seller over a period of time rather than all at once, are known as a poor man’s mortgage that combine all the responsibilities of homeownership with all the disadvantages of renting, while offering the benefits of neither.

The warning is part of the Attorney General’s monthly Scam Stopper alerts that provide information so Minnesotans can avoid being a victim of fraud. Click here to view and download a video message from Attorney General Ellison or click here to download the audio message.

What is a Contract for Deed?

A “contract for deed” is a contract between a home buyer and a home seller where the seller agrees to accept payments over time instead of the buyer paying all at once. Often times these transactions require a down payment and a large “balloon” payment at the end of the contract.  Only after all the payments are made does the buyer own the home. This way of buying a home may allow people who do not qualify for a mortgage, or who do not want to take out a mortgage, to buy a house. Most contracts for deed are short term and require full payment of the home in 3, 5, or 10 years. 

Sellers of homes who use contracts for deed have to follow fewer regulations and rules than mortgage companies so the buyers have fewer protections than if they got a mortgage from a bank. One important law that applies to mortgages but not contracts for deed are foreclosure grace periods—if someone falls behind on their mortgage payments they are given time to catch up or given their equity if the house is ultimately foreclosed on.  But under contracts for deed, even being one day late or one dollar short can result in the seller cancelling the contract and forcing the buyer out of the home without the foreclosure grace period that applies to mortgages.

"A contract for deed can be an extremely risky way to buy a home,” said Attorney General Ellison. “Buyers have less protection with contracts for deed than with mortgages, which opens the door for scammers and bad actors. In fact, earlier this month, I sued a home seller for setting up predatory contracts for deed that were designed to fail and cheat buyers. I am sharing this information because it is essential for any Minnesotan purchasing a home on a contract for deed to know what they are getting into and how to spot common scams.”

What Are the Risks?

Contracts for deed sometimes have more pitfalls than mortgages. With a mortgage, companies must be licensed to operate and are required to follow laws that protect a borrower’s rights. If a borrower falls behind on a mortgage, the mortgage companies may have internal programs to help the person get caught up. With contracts for deed, if the buyer is unable to complete the contract, the seller can cancel the contract and also keep the house, with the buyer losing everything they have invested in the property. At that point, if the buyer does not move out, the seller may evict the buyer.

Another concern with contracts for deed is that since the seller maintains the title, there is a risk that if the seller has a mortgage then they might default on the mortgage and the property could enter foreclosure even if the buyer has made all of their payments.

Most contracts for deed contain a “balloon payment” at the end of the contract period. This requires the buyer to pay a large amount at the end of the contract. The balloon payments are often so large that the buyer has to take out a mortgage from a bank to make the balloon payment. If the buyer does not qualify for a mortgage or does not want to take out a mortgage, then the buyer may lose the house and all money paid for it. And because homes are sometimes sold at inflated prices under contracts for deed it can be difficult for the buyer to qualify for a mortgage even if the buyer’s credit score is good enough to get a mortgage.

Scams to Watch Out For

Real estate scammers can take advantage of contract for deed home purchasers by hiding the amount of the balloon payment. This could force the buyer to default on the contract because they are unprepared to make such a large payment at one time, which allows the seller to keep all the payments made on the house as well as keep the house itself. The seller can then find another victim and repeat the same scam using the same property.

Scammers may also try to sell a home that is in foreclosure already by a bank by pretending to sell it to an innocent purchaser on a contract for deed.  These scammers pocket the monthly payments made by the buyer until the mortgage company takes the house back and evicts the buyer. It is important to check with the county tax office and recorder’s office to see what other liens may be recorded on the property and to see if there are back taxes owed before entering into a contract for deed.

How to Protect Yourself

Before signing a contract for deed, it is important to understand the contract, and what your rights and responsibilities are. Affordability, your total costs per month, repair responsibilities, property taxes, insurance, and any other factors should be understood before you sign. Some of the things you may want to look for include:

• Check that the seller has paid the home’s property taxes, and ensure that the home is not in foreclosure.
• Make sure you know whether the contract has a balloon payment and, if so, what the size of that payment is and when you will be expected to pay it.
• Have a plan to pay off the whole contract and pay for yearly property taxes and maintenance before entering into the contract.
• Get an appraisal of the home along with an inspection to make sure you are not overpaying for the home.
• Understand that you will be responsible for the costs of repairs, property taxes, and general upkeep of the home once the contract is signed.
• Know what the interest rate you are being charged by the seller is, and check rates with lenders to see if the rate being offered is competitive.
• Make sure that the contract is recorded with the county recorder’s office within four months of signing. Recording the contract may give you more protections.

When a Scam Happens to You

Attorney General Ellison asks that Minnesotans report scams to his office immediately. Many people feel embarrassed when a scam happens to them, but the truth is that con artists and scammers are often professionals with years of experience. They are good at what they do, and they count on people feeling too embarrassed to protect others by speaking out. If a scam happens to you, please report it right away: not only may the Attorney General’s Office be able to help you personally, you will help others by allowing us to alert others.

Reporting a Contract for Deed Scam

If you believe you are the target of a scam, file a complaint with the Office of Attorney General Keith Ellison online. You can also contact the Attorney General’s Office by calling (651) 296-3353 or (800) 657-3787. 

For more information, see this publication from the Attorney General’s Office on contracts for deed.