Owner financing land in Texas: a guide for sellers

Yes, Texas allows seller financing

Yes. A Texas landowner can sell land and let the buyer pay over time, with the seller acting as the lender. It works on raw land as well as on houses, and it opens the door to buyers who can't or don't want to borrow from a bank.

What matters is how you set it up. Texas law treats the two common structures very differently, and one of them carries far more risk for the seller.

Two ways to owner finance, compared

Why contracts for deed are risky for sellers

With a contract for deed, you keep title until the buyer pays in full. That sounds safer. In Texas it can be the riskier choice, because of Property Code chapter 5, subchapter D.

That subchapter applies when the land is used, or will be used, as the buyer's residence or the residence of a close relative. A lot of 1 acre or less is presumed to be residential. It doesn't apply if the contract requires the deed to be delivered within 180 days. When it does apply, you must, among other things:

• before the buyer signs, provide a survey or plat from the past year, copies of documents affecting title, and a signed disclosure covering water, sewer, septic approval, electricity, flood plain and road maintenance (5.069);
• disclose tax payments, insurance and the financing terms (5.070 and 5.071);
• let the buyer cancel for any reason within 14 days (5.074);
• own the land free of liens, with narrow exceptions (5.085);
• record the contract within 30 days (5.076);
• send an annual accounting statement every January (5.077); and
• deliver the deed within 30 days of the final payment, or owe $250 to $500 a day in damages (5.079).

Several of these failures count as deceptive trade practices under the Texas DTPA and let the buyer cancel and get back every payment (for example 5.069, 5.070 and 5.085). The buyer can also convert the contract into a deed and deed of trust at any time (5.081). And once the contract is recorded, it's treated like a deed with a vendor's lien anyway (5.079). For most sellers it's simpler to use a deed from the start.

How a deed-and-note sale works

At closing you sign a deed to the buyer. The buyer signs a promissory note for the unpaid balance and a deed of trust, which gives a trustee the power to sell the land if the buyer defaults. The deed can also reserve a vendor's lien for the unpaid price. A Texas title company closes the sale, collects the down payment and records the documents.

With the TREC contracts, the Seller Financing Addendum (TREC No. 26-8) sets the key terms:

• Credit documents. The buyer delivers a credit report, employment verification, proof of funds or other documents you choose, within a set number of days. If they don't, you can terminate and keep the earnest money. If you find the buyer's credit unacceptable, you can terminate within 7 days and the earnest money is refunded.
• The note. You fill in the interest rate and schedule: one payment, monthly installments, or interest only for a period. The buyer can prepay without penalty, and the form sets a late fee of 5% on any payment more than 10 days late.
• Transfers. You choose whether the buyer can resell without your consent, or whether a sale without consent lets you call the whole balance due.
• Taxes and insurance. Either the buyer shows you each year that property taxes are paid, or the buyer pays into an escrow with each installment.

The addendum itself tells both sides to consult an attorney, and TREC forms aren't meant for complex transactions. Have a Texas real estate attorney prepare or review the note and deed of trust. If you're selling without an agent, our guide to selling land in Texas without a realtor covers the contract and the required notices.

If the buyer stops paying

A deed of trust lets you foreclose without a lawsuit, under Property Code 51.002:

• The sale is a public auction at the county courthouse, or another spot the county designates, between 10 a.m. and 4 p.m. on the first Tuesday of a month.
• Notice of the sale must be posted at the courthouse, filed with the county clerk and sent by certified mail to the buyer at least 21 days before the sale.
• If the land is the buyer's residence, the buyer must first get written notice and at least 20 days to cure the default.

If nobody bids more than the debt, you can take the land back by bidding what you're owed, keep the payments already made, and sell it again. Foreclosure still costs time and legal fees, and the land may come back with unpaid taxes or damage. Your deed of trust should require the buyer to pay the taxes, and you should check every year that they have.

The pros and risks for you as the seller

It can be, when the buyer and the terms are right.

What you gain:

• More possible buyers, including people who can't get a land loan.
• Interest income for the life of the note.
• Room to negotiate on price, since your terms become part of the deal.
• Tax on the gain spread over the years you're paid.

What you risk:

• The buyer stops paying and you have to foreclose.
• Your money arrives over years instead of at closing.
• The buyer lets the taxes go delinquent or neglects the land.
• Lending rules you didn't know applied.

How to protect yourself

• Take a real down payment. A buyer with meaningful money in the deal has more reason to keep paying, and it gives you a cushion if you have to foreclose.
• Check credit using the addendum's documentation and approval clauses.
• Close through a Texas title company that records the deed and your lien. Ask about a loan policy of title insurance (TDI Form T-2) covering your lien. Our guide to what it costs to sell land in Texas covers the other closing costs.
• Use a loan servicing company to collect payments, keep the payment history and handle any tax escrow. It keeps things businesslike and makes the note easier to sell later.
• Require proof that taxes are paid each year, or escrow them.
• Decide on resale consent. A due-on-sale clause stops the buyer from passing the land to someone you haven't approved.
• On larger tracts, agree in writing up front whether the buyer can pay down the note to release part of the land.

Lending laws that can apply

Financing land for someone to build a home on can bring in state and federal lending rules. These are the ones to raise with your attorney:

• Texas licensing. Texas regulates residential mortgage loans, and "residential real estate" includes land where a home is built or intended to be built (Finance Code 180.002). The licensing chapters exempt an owner who makes no more than three such loans in any 12 months to buyers of the owner's own property (Finance Code 156.202 and 180.003). Owners who are entities, or affiliated with one, are counted together.
• Federal rules. Regulation Z, adopted under the Dodd-Frank Act, sets rules for loan originators. A seller who finances three or fewer properties in 12 months is excluded if the loan is fully amortizing, the seller decides in good faith that the buyer can repay, and the rate is fixed or adjusts only after five or more years within reasonable limits (12 CFR 1026.36). A separate one-property exclusion covers individuals, estates and trusts.

Balloon payments, adjustable rates and financing several tracts a year are the points to discuss with a lawyer before you offer terms.

Taxes on an owner-financed sale

When you receive payments after the year of sale, the IRS generally treats it as an installment sale. You pay tax on each year's share of the gain as it comes in, report it on Form 6252, and pay ordinary income tax on the interest. The note needs adequate stated interest, measured against the IRS applicable federal rate. Our guide to capital gains tax on land in Texas covers basis, rates and the rest.

Selling the note later

If you'd later rather have a lump sum than monthly payments, you can sell the note to an investor, typically at a discount to the balance. A solid down payment, a clean payment history kept by a servicer, and properly recorded documents all make a note easier to sell.

If you'd rather be paid in full at closing, you can list with an agent, sell it yourself, or work with a land company like ours. Tell us about your land and we'll talk through your options within 24 hours.