— Charles Gullickson, Dixie Hieb, and Keith Gauer, Davenport, Evans, Hurwitz & Smith, LLP

Contracts for deed are a mechanism by which the owner of real property may provide seller financing to a buyer to facilitate the sale of real property. On August 13, 2024, the Consumer Financial Protection Bureau (CFPB) issued an “Advisory Opinion” in which the CFPB stated that it “affirms” that contracts for deed are extensions of credit that may be subject to the Truth in Lending Act (TILA) and Regulation Z, the Act’s implementing regulation. Thus, if the seller under the contract for deed satisfies the TILA/Regulation Z definition of “creditor”, the documentation for a contract for deed transaction must include all of the disclosures that are required under TILA and Regulation Z if the buyer is a consumer. Even if a bank itself never sells real property under a contract for deed, bankers may want to be aware of this development. For example, a bank may take an assignment of a seller’s contract for deed and rely on cashflow from a contract for deed to service debt extended to the seller. That cashflow could be in jeopardy if the seller were required to provide the TILA/Regulation Z disclosures and failed to do so.

In a contract for deed, the seller retains legal title to the property, the buyer obtains the right to take possession of the property, and the buyer agrees to make regular installment payments to the seller. If the payments are made as agreed, the seller conveys the property to the buyer. Contracts for deed are commonly used by sellers when buyers have been unable to obtain traditional mortgage financing and are generally available for sales transactions involving all types of property, including commercial, agricultural, or residential.

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“In a contract for deed, the seller retains legal title to the property, the buyer obtains the right to take possession of the property, and the buyer agrees to make regular installment payments to the seller.”

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In the case of a buyer’s default, South Dakota law provides an expedited foreclosure process for contracts for deed. After complying with any advance notice requirements in the contract, the seller can accelerate the indebtedness and commence an action in state Circuit Court seeking foreclosure of the contract for deed. Upon entry of the judgment, the court sets a certain period of time, not less than ten (10) days from the date of the judgment, for the buyer to comply with the contract terms and pay the accelerated indebtedness due. In the event the buyer fails to comply with the terms of the judgment (and pay off the accelerated indebtedness), title is revested solely in the seller’s name, the contract for deed is foreclosed, and all rights thereunder eliminated. There is no redemption period for the buyer beyond the time set by the court for compliance. Further, a foreclosed buyer has no right to request the return of any sums paid on the contract for deed prior to the default.

Sellers under contracts for deed may not necessarily think of themselves as being in the business of providing credit. For example, assume that a handyman-type fellow has a side line of buying one or two rundown homes during the year, renovating them, and then selling them on a contract for deed. Our handyman may view this as a sideline source of income and a way to generate revenue from his skills. Let’s assume too that our handyman fellow contemplates regularly engaging in this activity over the foreseeable future and might enter into multiple contracts for deed in the same year, at any point in time having several contracts for deed outstanding. The CFPB under its Advisory Opinion could view the handyman as being in the business of extending credit. That is not the end of the analysis, however, in determining whether the handyman’s contracts for deed are subject to TILA and Regulation Z consumer disclosure requirements.

Crucial to the analysis of whether TILA and Regulation Z apply to a contract for deed is whether the seller under the contract is a “creditor.” Regulation Z defines “creditor” to include a person who regularly extends consumer credit that is subject to a finance charge or is payable by written agreement in more than four installments, and to whom the obligation is initially payable. The definition further states that a person regularly extends credit only if they extended credit more than twenty-five times in the preceding year, or five times in the preceding year if the transactions were secured by a dwelling. If a person did not meet these numerical standards in the preceding calendar year, the numerical standards are applied to the current calendar year.

In addition, a person regularly extends consumer credit if the person originates more than one high-cost mortgage in any 12-month period. A “high-cost mortgage” is defined under Regulation Z as any consumer credit transaction that is secured by the consumer’s principal dwelling, and in which the annual percentage rate applicable to the transaction exceeds the average prime offer rate by some defined amount, or the transaction’s total points and fees exceed some defined amount, both as set forth in Regulation Z.

Further, Regulation Z defines a residential mortgage transaction to include a transaction in which a mortgage, purchase money security interest arising under an installment sales contract, or equivalent consensual security interest is created or retained in a consumer’s principal dwelling to finance the acquisition of that dwelling. Regulation Z defines dwelling to mean a residential structure that contains one to four units, whether or not that structure is attached to real property.

Based upon the foregoing, our handyman would need to assess both the volume of contracts for deed that he has extended and the terms of the contracts themselves in order to determine whether or not Regulation Z applies.  If it does, the handyman would need to provide the required Regulation Z disclosures in connection with the transactions.

Contracts for deed can be a relatively straightforward method for selling real estate with seller financing. When it comes to selling residential real estate to consumers, though, the recent CFPB Advisory Opinion highlights that the complexities of Regulation Z may intersect with the simplicity of a contract for deed.