Checklist with Explanations

• How much is the purchase price?

This is obviously a fundamental term that the parties will need to negotiate. How much will the farmland ultimately cost? Sellers face a level of risk in entering a land contract with a buyer who may not otherwise qualify for a traditional loan or mortgage, so they may insist on a higher purchase price than the going market rate. A higher price can be fair to some degree as the farmer benefits from the opportunity to secure permanent tenure on a piece of land even though she might not have good credit or a lot of money in the bank.

Nevertheless, farmers should do their homework and research prices of comparable land in the area. This gives the farmer-buyer some ammunition to negotiate a fairer price and prevent the seller from unduly taking advantage of a less-than-stellar financial situation. You can find this information by searching online listings such as Zillow or calling a local realtor who will have access to the purchase prices of similar land sold in your area within the last year or so.

• Does the buyer have to pay any money upfront?

The benefit of making a down payment is that it immediately reduces the principal, the amount of the purchase price less any interest that accrues. So if the buyer puts $20,000 down on a $100,000 purchase price, she’ll only have to make the monthly installment payments on the remaining $80,000. If the seller requires an interest rate to be paid on that remaining balance over time, it can really add up. However, many farmers don’t have a lot of money up front, so a high down payment may not be an option. One advantage of a land contract is that oftentimes sellers do not require the buyer to pay any money up front. With that said, even if the farmer does have a lot of money and could make a substantial down payment, she may instead want to keep this cash on hand to pay for other capital expenditures such as equipment that will help grow the farm business. While farmers often want to minimize taking on debt, having some debt that can be stretched out over time can serve to free up cash flow early on. This is something both the farmer and the seller will have to consider and negotiate to come up with the best solution based on their situation.

• How long does the land contract run?

The land contract could last for as long or as short as the parties agree to. Note that the longer the contract runs, the less each installment payment will be as it will be stretched out over time; however, the longer it runs, the more time it will take for the buyer to receive title and own the land outright and the more interest charges will accrue if applicable.

• What are the terms of the payments?

How and when the payments are made are fundamental issues that need to be addressed. This includes several components, which the following questions outline:

• • How often are payments made?

The parties will need to decide how often payments are made—bi-monthly (i.e., every two weeks), monthly, quarterly, annually, or something else? Farm operations are inherently seasonal so cash flow will most likely vary in different parts of the year—typically more cash comes in through late summer and less comes in through late winter. Farmer-buyers should carefully consider their financial situation and ideally prepare a monthly cash flow analysis to be sure they will be able to make all monthly payments on time throughout various stages of the year. If it becomes apparent that making payments in a given month or time of year—such as December or January—will be an issue, the farmer-buyer can try to negotiate another arrangement such as quarterly or annual payments.

• • Will interest be charged and, if so, how much?

In addition, the parties will need to negotiate whether interest is charged and, if so, what the interest rate will be. Zero interest is definitely the best scenario for the farmer-buyer; however, it may be challenging to find a seller who is willing to agree to it. Keep in mind that any interest that is charged will increase the money owed throughout the term of the contract, which will exceed the purchase price. Let’s say the parties agree to a $100,000 purchase price that will be paid over a period of 10 years with monthly installment payments at 2% interest per year. Let’s also say that the farmer-buyer pays $10,000 as a down payment so the principal balance is $90,000. Ultimately, the farmer-buyer will pay a total of $109,908 through 120 monthly payments over the course of the contract. This is in addition to the $10,000 down. So while the purchase price is $100,000, the farmer will have to fork out $119,908!

One way of thinking about interest charges is that they are the cost for the opportunity to secure permanent tenure in land over a period of time. It’s really the same for a mortgage. So unless you can pay cash for the property up front, you’re pretty much in the same boat for both. Nevertheless, a keen farmer-buyer should pay attention to the going market interest rates, which are generally posted by all major banks in your area. It can be helpful to take these rates to the seller to negotiate a fairer rate. Also, interest rate calculators are available online which can help calculate what your monthly payments would be based on various interest rates, the principal amount, and the timeframe of the contract. Simply search “mortgage calculator” or “interest rate calculator.”

• • Will there be a balloon payment?

A large final payment is often referred to as a balloon payment. Under this scenario, the buyer makes even monthly payments for a period of time—say two, five, or ten years—and then the buyer is required to make a lump sum payment for the total amount due at the end of the contract term. Entering this kind of arrangement has its advantages, as depending on how it’s all set up, the installment payments could be smaller. For example, let’s say the the parties agree to a five-year contract with a $100,000 purchase price. The buyer agrees to make 59 monthly installment payments at $500 equating to $29,500. Then, the final payment is the balloon payment that must be made that 60th month. This balloon payment will cover the balance of $70,500. Without this balloon payment, the buyer would have to make 60 equal monthly installment payments which would be $1,667. This is quite a difference! Note that for simplicity sake, these calculations all assume there’s no interest charges. If an interest rate applies on the payments, it would be even more as explained above.

Farmer-buyers may be tempted to enter an arrangement that include a balloon payment to keep the initial payments low; however, be cautious when committing to make a huge balloon payment. Five or even ten years down the road may seem like a long time, but anything could happen. What if the farm operation isn’t as successful as you thought it would be and isn’t turning a profit and for whatever reason you can’t qualify for a loan?

If a balloon payment is required, the buyer will often need to secure funding to make the payment when due, which may include taking out a mortgage on the property if the state laws permit it or taking out personal loan. Note that some states allow buyers to take out a mortgage on land that is subject to a land contract and some don’t. Be sure to check your state’s laws before considering this option. In any case, if the farmer-buyer can’t come up with the balloon payment on her own, the buyer will be back to square one and have to “qualify” and abide by the terms of the mortgage or even a personal loan. Also, depending on the forfeiture clause in the land contract as well as state law protections, if the farmer-buyer is not able to come up with the lump sum or secure financing when the balloon payment comes due, the farmer-buyer may forfeit all of her rights to own the land and could lose all of the prior payments.

• • Is prepayment allowed?

Whether the buyer can prepay all or a portion of the purchase price before the amount is actually due is an important consideration. Remember, until or unless the buyer pays in full, the title to the land is in the hands of the seller. During this time, interest charges can tally up quickly. Imagine you inherit some money in year two and want to pay off the entire balance so you can own the land right away or pay off a large chunk so you can own the land earlier.

• • How exactly must payments be made?

The contract should clearly specify how payments are made and when they are due. Are they due on the first of the month? Does this mean in the seller’s hands by the first or can the payment be postmarked by this date? In what form must the payments be made—personal check, cash, cashiers check, or anything else? Where must the payments be sent—the seller’s mailing address, dropped off at a particular place, or handed to the seller in person? Payment is a vital aspect of the deal, and the clearer and more specific this is all set forth in the land contract, the better.

• What happens if the buyer fails to make payments on time?

The land contract should clearly outline what happens if the buyer makes a late payment or otherwise fails to abide by the terms of the agreement such as maintaining insurance or not properly maintaining the land. In legal speak, this is called a “default.” As a caveat, provisions in land contracts that outline what happens if the buyer is in default may or may not be enforced by the courts in your state. This is because historically land contracts came with harsh consequences—if the buyer was in default, the seller could terminate the contract and retain possession of the land as well as all of the buyer’s prior payments. Basically, the buyer would forfeit everything! This explains why the provision in the land contract dealing with the buyer’s default is often referred to as a “forfeiture clause.”

Courts and state legislatures may step in and override forfeiture clauses

Recently courts and state legislatures have stepped in and, despite what the contract says, offer buyers using land contracts additional protection based on fairness and equity. Indeed, this can be a huge benefit to buyers who undertake a lot of risk when entering a land contract. Note that this is an area of very state-specific law, which is far too detailed and nuanced for this guide to cover state by state. However, in Overview of Land Contracts we outline some of the various ways courts deal with this issue. Be sure to review that section of this guide to fully grasp the specific risks and processes involved should the farmer-buyer miss a payment or otherwise breach a term of the land contract. To gain an even deeper understanding of the issue, be sure to read the special legal issue section at the end of this toolbox–Why Are Land Contracts Treated Differently by the Courts?

The basic takeaway is that the parties can certainly agree on how they prefer to handle the critical issue of the buyer’s potential default while knowing that the courts may or may not enforce their preference as written in the land contract. This may seem strange; however, going through the negotiation and drafting process itself can help clarify expectations. This ultimately helps prevent confusion, problems, and disputes down the road. With that said, if you want the most accurate picture and the most control over your situation now and into the future, speak with an attorney who is familiar with the laws in your state for details.

There are three main ways that courts deal with forfeiture clauses or how the land contract handles the buyer’s default. The first is that courts treat the land contract as a mortgage. This provide the buyer the most protection. The seller has to go through the long and costly process of foreclosure and the buyer is given the same rights as someone who buys land through a mortgage, including an opportunity to make the payment in full before a specified grace period to redeem or get the property back. This is called the equity of redemption in legal speak. The second way courts treat this issue is by just giving the buyer this equity of redemption without requiring the seller to go through the full process of foreclosure. The third is what’s called restitution to the buyer. This provides an opportunity for the buyer to get some of the prior installment payments back, but doesn’t allow the buyer to reclaim the property. Yet another option would be to have a traditional forfeiture clause, which says the buyer forfeits everything if she fails to make a payment on time or otherwise defaults on the contract. Farmer-buyers should NOT agree to this! It carries very harsh consequences—losing everything including all prior payments for a single late payment. Nevertheless, as just discussed, traditional forfeiture clauses are not enforced in most states, so the buyer will likely have some protection even if a forfeiture clause makes its way into the land contract.

While the best option is for parties to find out how their state handles this issue, the parties can choose whichever approach they prefer, or even negotiate their own term in the land contract. We’ve included a sample provision for each in the sample land contract that follows. You can choose any of these provisions, or something else that is more specific to your needs. Keep in mind that no matter what you choose a court could disregard it entirely and apply a different set of rules and remedies.

• What happens to the improvements made by the buyer if the contract is terminated?

Improvements to the land include permanent changes such such as installing fences, renovating out buildings, or constructing a new packing shed. The parties should decide upfront whether such improvements are permitted and if so, how they are handled. Are they allowed outright, or must the buyer first get the seller’s permission? What happens if the contract is terminated or if the buyer defaults? Does the buyer get to take the improvements with her if they are moveable? If not, does the seller compensate her in some way for all or part of the cost in making the improvements? Farmers often want to make improvements to the land right away and not wait until they own the land, which could be 10 or 20 years down the road. Unless the land contract adequately addresses what happens to these improvements upon termination of the contract based on default or something else, the farmer-buyer risks losing all the costs incurred, including blood, sweat, and tears.

• Who pays the property taxes?

Typically, in land contracts, the buyer must pay the property taxes and assessments on the land. However, this issue can certainly be negotiated between the parties. Either way, the land contract should specify who is responsible for covering this obligation. It can cause serious issues in the form of monetary penalties by the county if both parties assume the other is responsible and neither party pays. This is one condition that differentiates a land contract from a rent-to-own scenario. Typically, tenants do not pay property taxes while buyers under a land contract do. But again, these terms can be negotiated between the parties.

• Who pays for insurance?

Just like property taxes and assessments, typically the buyer under a land contract is responsible for maintaining and paying for insurance throughout the duration of the contract. But who pays is not the only issue. Land contracts should clearly outline what the minimum coverage is and what types of policies are required—property, general liability, and so forth—in addition to what must be covered. For example, must the property insurance cover floods and earthquakes? Most contracts will require that you get insurance in the amount of the full replacement value of the land, including buildings, improvements, and fixtures.

Insurance under a land contract is a bit of a paradox. While the buyer pays for the insurance, the proceeds will generally go to the seller who is the legal owner of the land until the final payment is made and the title is officially transferred. The legal contract should therefore clearly outline what happens to any insurance proceeds if and when they are recovered. Does the buyer have some control over how they are spent, or can the seller run off to use them to fund a European vacation? The sample land contract provides a creative way to handle insurance proceeds for property damage. It basically allows the buyer to use the proceeds to make repairs if the seller approves. Otherwise, the funds must be applied toward the purchase price. Either way, it protects the buyer’s vested interest in the land. This is just one option that you can use to get your creative juices flowing. It’s up to the parties to negotiate and agree what is best for them.

• Who is responsible for damage to the property?

• What happens if someone is injured on the land or equipment is stolen?

What happens if someone, such as a visitor or an employee, is injured on the land? Or if farm equipment is stolen? Given the buyer is in possession of the land, she will most likely be deemed responsible for injuries, stolen property, or other unfortunate occurrences that occur on the land. This is the case even though the seller still holds title to the land. The land contract could be written in such a way where the buyer and seller share the risk and liability based on their own fault. So the buyer would be on the hook for injuries or damages that are a result of her actions and the the seller would be on the hook for injuries or damages that are a result of his actions. Check out the sample land contract for an example of how this could be done.

In addition, the seller may require the buyer to maintain liability insurance to protect against claims for bodily injury, death, and personal property damage (e.g., wallets, computers, certain equipment, etc.). This will actually benefit the buyer, as she will be able to file a claim with the insurance company should any injuries or damage arise and will be able to recover the proceeds.

• What happens if the land is condemned or the government takes the land?

While it may seem far-fetched, the government could decide at some point to condemn the land (i.e., deem that you cannot live on it or use it because of some sort of hazard or contamination). The government could also decide to acquire the land through its power of eminent domain to build a highway, for example. The parties should think through this scenario and determine what should happen. In both condemnation and eminent domain situations, the landowner is typically afforded some compensation from the government. Oftentimes, land contracts will state that the compensation in such scenarios goes toward the purchase price and anything remaining goes to the seller. This is not ideal for the buyer, because not only do they now no longer get the land, they also lose out on all the prior installment payments. They basically get nothing. One way to address this inequity is to write the contract so that if there’s any amount leftover, it goes to the buyer. See the sample land contract for an example.

• What happens if a party doesn’t pay the bills when they’re supposed to?

Both parties may have obligations to keep up on certain bills related to the property, such as taxes and insurance premiums as well as utilities and other services. Often land contracts include a protection of interest clause which protects both parties should one party fail to make a payment. It says that the other party can make the payment and then be compensated. Let’s say the buyer fails to make the property tax payment. The seller is still the legal owner and does not want to incur penalty fees in his name. So the seller is able to pay the bill and then require the buyer to reimburse him.

The same goes for any repairs on the property that the seller agrees to do. For example, if the seller never fixes the banister to the front door that he promised he would fix before the buyer signed the contract, then the buyer can pay the amount needed to fix the banister and deduct it from the total amount of the contract. How this is all handled should be set forth in the land contract.

• Can the buyer sale or lease the land to someone else?

Just like a lease agreement, sellers often want to put restrictions on whether the buyer can lease or assign rights to the land to someone else. Every land contract should have a transferability provision which outlines any restrictions and processes that the buyer must follow if wanting to “transfer” her interest in the land. Oftentimes, this provision requires written permission by the seller. This makes sense since the seller still owns the land and he’ll likely want to have a say in who lives there to be sure they too will be good stewards. In addition, transferability provisions often have an acceleration clause. This means that if the buyer does not get written permission and leases the land to someone else, the seller can “accelerate” the contract by requiring that the buyer pay the full balance on the purchase price immediately or risk forfeiting her interest in the land.

This is a harsh consequence indeed. What if the farmer gets sick and needs to move to the city and needs to find someone to take care of the property? Farmer-buyers should be wary of acceleration clauses, or at least be sure they negotiate a reasonable approach for letting them sublease the land to someone else if an emergency or need arises.