10/29/2019

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Installment Land Contracts

• Lambert signs an installment contract to buy a flat-screen TV (12 payments @ $350 each) from “Tiger John” Cleek

• Contract says: Tiger John retains title to the TV until Lambert makes all payments

• Lambert makes the first 11 payments, but he misses the 12th payment

• Tiger John repossess TV, terminates the contract, and keeps all of Lambert’s past payments as damages. Can he do so?

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UCC: “Security Interest”• § 1-201(b)(35) defines a “security interest” as “an interest in personal property ... which secures payment or performance of an obligation.”

• § 1-201(b)(35) also says “retention or reservation of title by a seller of goods notwithstanding shipment or delivery to the buyer ... is limited in effect to reservation of a security interest.”

• Under UCC Article 9, Tiger John is deemed to have only a security interest in the TV, which he must enforce by Article 9 foreclosure procedures

• Foreclosure sale required in this situation [§ 9-610]• Before that sale occurs, Lambert can redeem TV by

paying remaining debt balance (12th payment + any costs of collection) [§ 9-623]

• If sale price of TV >> balance of debt, any surplus must be returned to Lambert [§ 9-615]

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• Sometimes, an owner of land sells it to buyer by installment land contract or “contract for deed” (a form of seller financing)• Buyer agrees to pay price in monthly installments over time (term may vary; some as long as 40-50 years!)

• Buyer takes possession, but Seller retains title until Buyer pays all installments

• Contract usually provides that on default, Seller can terminate contract, evict Buyer, and keep all of Buyer’s prior payments as liquidated damages

• Assume Barrett buys a home from Smith on an installment land contract

• Price = $200,000; Term = 30 years; Interest rate = 10%; monthly payments = $1,755

• Barrett pays for 10 years, then defaults• Total payments in 10 years = $210,600• Contract balance at default = $181,500• FMV of home at default = $220,000

• What happens under each judicial approach (e.g., Russell, Watkins, and Petersen)?

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• Under Russell (p. 23), forfeiture clause is enforced as a contract remedy, unless forfeiture would “shock the conscience”• In that case, Russell forfeited over $56,000 in equity on land on which contract balance was only $26,500

• In our example, Smith could:• Recover land ($220K) (no need for foreclosure sale)• Keep Barrett’s past payments ($210,600); no obligation to make restitution to any extent

Vendor(Seller)

Vendee(Buyer)

Contract

! Vendee agrees to pay contract pricein installments

! Vendor does not deliver deed (title)until Vendee pays final installment

PurchaseMoney

Mortgagee(Seller)

PurchaseMoney

Mortgagor(Buyer)

Deed (Title)

Note and Mortgage

The Purchase Money Mortgage Compared

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• Under Watkins (p. 25), contract is deemed to be a mortgage; Smith would have to foreclose

• Smith does retain Barrett’s prior payments

• But, if sale brings price = $220,000, then• Smith keeps only first $181,500 (to satisfy K balance) • Remaining $38,500 surplus returned to Barrett, reflecting his equity accrued by 1) principal payments during contract period and 2) market appreciation during that period

Watkins v. Eads [p. 329]• Any attempt to use title to land as security for a debt

should have the same legal effect; in substance, purchase money mortgage and installment contract serve same purpose

• Thus, ILK must be enforced as a mortgage, by foreclosure

• Cf. Restatement of Mortgages: “A contract for deed creates a mortgage.” [§ 3.4(b)]

• Note: if ILK doesn’t contain a power of sale (most don’t), Seller would have to bring judicial foreclosure

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• Pro-Restatement view: ILK buyer and purchase money mortgagor are in essentially the same position and should be treated the same

• Both purchase money mortgagee and ILK Seller are using title to land to secure payment of a debt

• Pro-ILK view: ILK buyers are different• ILK buyers have poor credit, can’t qualify for conventional

mortgage financing; use of ILKs enables these marginal buyers to acquire homes

• Under Russell v. Richards, is a 30-year ILK any different from a 30-year “rent to own” contract?

• Under a “rent to own” contract, the tenant pays “rent” each month, but if the tenant pays the agreed rent every month for the entire 30-year term, the tenant would become the owner of the property at end of the term

10/29/2019

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Is Buyer Really an Owner, or a Tenant?

• Problem: If “Seller” is functionally a landlord (and has a landlord’s remedy on default, i.e., eviction), should Seller be responsible for the habitability of the premises (as a landlord would be)?

• Note: most ILKs place full responsibility for maintenance and repair of the premises on the Buyer (as would be the case in a regular sale)

• Under Petersen (p. 35) approach, ILK is not deemed a “mortgage” per se; if Buyer has not made “substantial payments” on the ILK, or if the default is nonmonetary, seller can terminate

• But, if Buyer has made a “substantial” number of payments or improvements, and the default is purely financial, then the defaulting Buyer has a right to specific performance [p. 39]

• Petersen court calls this a right to “redeem” Buyer’s interest in land [p. 41]

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•Under Petersen, in our hypothetical:• If Smith tries to terminate K and recover possession, Barrett is entitled to seek specific performance (having made “substantial” payments)

• Barrett could then pay off the full K balance ($181,500), within time period established by court

• If Barrett can make this payment, then court will order Smith to deliver legal title to land

•Why didn’t the Petersencourt go “all the way” and treat the installment contract as a mortgage?

•What happens if Barrett can’t tender full performance?

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•Majority’s reasoning• Buyer who has committed nonfinancial defaults, or who has not made substantial payments, doesn’t merit the “time-consuming and expensive” specific performance remedy [p. 41]

• If ILK is a mortgage, even the willfully defaulting buyer would have a statutory right to reinstate the contract(by curing the default) [§ 2924c]; no reason to think legislature intended ILK buyer to have this remedy

• If Barrett can’t pay off the full balance of the contract ($181,500), then what happens under Petersen?

• Seller can cancel ILK, terminate Buyer’s equity of redemption (analogous to strict foreclosure)

• But, Buyer can bring action to compel restitution of past payments, to the extent they exceed Seller’s actual damages due to Buyer’s breach [Freedman v. The Rector, pp. 38-39], to prevent Seller’s “unjust enrichment”

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• Suppose Smith terminates the contract and Barrett sues for restitution. Smith answers:

• “My damages from Barrett’s breach are equal to the rental value of the land that I could have collected if I had been able to rent the property to someone else.”

• “Under the terms of the contract, Barrett stipulated that the rental value of the land was $1,755/month—exactly the amount I received each month from Barrett. Thus, no restitution is required.”

• Similar argument was accepted by court in Long v. Smith [p. 45]. Should it have been?

•Giving Smith/Seller a credit for rental value equal to full contract payment effectively converts the contract into a “rent-to-own” contract

•This makes Buyer/Barrett a “Tenant” until he makes full performance, but without the protections (habitability) typically afforded by landlord-tenant law

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Statutory Regulation of ILKs• Legislatures in several states that do not treat ILKs as mortgages have enacted statutes that regulate seller enforcement [pages 31-32]

• Most are procedural, i.e., they require Seller to provide period of notice and opportunity to cure before Seller can terminate ILK [e.g., MN § 559.21, p. 31]

• In some states, length of notice/cure period varies with level of Buyer’s performance [p. 32]

Tex. Prop. Code § 5.066(a). If a purchaser defaults after the purchaser has paid 40 percent or more of the amount due or the equivalent of 48 monthly payments under the executory contract, the seller is granted the power to sell, through a trustee designated by the seller, the purchaser's interest in the property as provided by this section. The seller may not enforce the remedy of rescission or of forfeiture and acceleration.This converts an ILK into a mortgage after Buyer has paid 40% of price

or 48 monthly payments, whichever occurs first

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Specific Performance as Alternative Seller Remedy to Termination

• In “down” market, or after uninsured casualty, value of property at breach may be << balance due

• In such cases, Seller might want to seek specific performance of the ILK, rather than declaring forfeiture and terminating the contract

• This remedy would enable the Seller to obtain the equivalent of a deficiency judgment

Specific Performance: Gershman [p. 46]• Remaining ILK balance = $108K at time of breach• FMV of condo was only $73,000; Buyer wanted to “walk away” and have Seller take forfeiture

• But Seller sued for specific performance instead!• Seller got judgment = $108,000, and then had condo sold

to satisfy judgment• Condo sold for $73,000; Buyer (Summit) was held liable

for $35,000 deficiency!• Note: In CA, Buyer would be protected from deficiency

after sale