Anyone have any advice or knowledge about rent to own leases?
How do they work and is it a good way to eventually become a homeowner?
Thanks in advance!
That’s a hotly debated topic. I’m a real estate investor who really likes rent-to-owns and lease-options, so I’m a bit biased. The quick bottom line is: It depends on the situation. They can be very, very good, or quite bad.
To quickly summarize how they work: A tenant-buyer (TB) finds a property that they’d like to lease-option. There are two primary documents: (1) A lease, very similar to your ordinary, standard lease. And (2) an option, which allow the TB to purchase the property at some point in the future. Now, everything is negotiable, and each one can be different. But often: The price of the purchase is set up-front in the option. The TB provides an upfront payment–an option fee (not a security deposit) that is non-refundable but is credited to the purchase if the TB exercises the option. And usually a portion of the lease payment–often around 15%-20%–is credited toward either the purchase price or down payment if the TB exercises the option. The option might run from 6 months to 10 years. 1-3 years is typical, though in today’s real estate market the option should be for longer. Then, during or at the conclusion, the TB can exercise the option and purchase the property for the agreed-upon price, minus the upfront option fee and the monthly credits. Or the TB can simply walk away at the end of the lease and be under no further obligation.
Lease-options can be a very good way to become a homeowner. It’s good for people with not-so-good credit who wouldn’t be able to qualify for a mortgage today. It’s good for people with an insufficient downpayment; the monthly rent credits are like an enforced savings plan. It’s also a good way to "test out" a neighborhood or community and the house. It you like it, you buy; if you don’t like it, then you don’t buy.
However, lease-options aren’t always the best choice. Sometimes the owner just want to sell, rather than leasing the property out for awhile. If the TB can qualify for a mortgage today, then often it’s better simply to purchase today. And the lease payments should be comparable to ordinary leases in the area, with a reasonable amount going toward the purchase price in the form of rent credits.
There are some investors who love selling houses that way. Set up properly, maybe 70% of lease-options result in purchases. However, some investors set them up so that the TB chooses not to purchase. The option price is set a bit high, and the rent credits are too low. If you’re serious about buying, you have to make sure that the option price is reasonable, and that the rent credits will make a difference.
There are also some risks to each party. For the TB, if the homeowner doesn’t pay his mortgage and the house is foreclosed upon, the TB has no protection and the option is worthless. And sometimes, in a hot market, the seller "changes his mind" and resists selling. The risk for the seller is that a lease-option can trigger the lender’s due on sale clause. And it can be more difficult to evict a non-paying TB; the TB can argue that he/she has equitable interest in the property and that the owner must therefore foreclose, rather than evict. (A lot of these problems can be avoided by using a land trust. I won’t get into the details, but just understand that these problems can be avoided. You just have to be aware of the potential pitfalls up front.)
So, rent-to-own homes can be a win-win situation for the TB and the seller (and the investor in a 3-way arrangement called a "sandwich lease option"). Or it can be a bad situation.
Hope that helps.
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