Best of Both Worlds? Rent-to-Own

Through my REMAX website, a monthly newsletter is published. This article is from the December Real Estate Advisor

Best of Both Worlds? Rent-to-Own

Some sellers uneasy with fluctuating home values and buyers facing financing issues are looking to a solution more frequently reserved for the automotive industry: rent-to-own agreements. While not a perfect option for every buyer or seller, a lease-purchase or lease-option agreement can be a viable real estate solution for many individuals.

It's important to note that while potentially advantageous for some buyers and sellers, these types of arrangements are very complicated. Anyone considering heading down the rent-to-own path should enlist the aid of an experienced and trusted real estate attorney.

How does a rent-to-own agreement work?

Essentially, these arrangements allow the buyer to act as renter for a set period of time, with the owner serving as landlord. The buyer pays the seller option money for the right to later purchase the property. The option money generally does not apply towards the down payment on the home's purchase. The occupant typically makes total monthly rent payments that are above market rate for comparable rentals in the area, and a predetermined portion of that monthly payment is applied as a credit towards the purchase price of the home. During the lease period, the home may not be sold to any other buyer.

Lease-purchase vs. lease-option

Rent-to-own transactions are separated into two very distinct categories: lease-purchase agreements and lease-option agreements.

Lease-purchase agreement - In a lease-purchase agreement, the buyer and seller agree on a purchase price. This is typically at market value, if not slightly above. The option money may be a substantial amount, and is nonrefundable. During the lease period, the occupant is often responsible for maintaining the property. At the end of the lease period, the buyer secures bank financing in order to pay the seller the full purchase price. Again, in lease-purchase agreements the buyer is obligated to purchase the home.

Lease-option agreement - The buyer and seller may agree upon a purchase price at the time of the agreement, although in some cases the buyer may agree to pay market value at the end of the lease term (most buyers prefer to lock in the purchase price at the onset of the agreement). Lease-option agreements often require a lower option money amount, although this typically is still non-refundable and usually does not apply to the purchase price. At the end of the lease period, the buyer can choose to exercise their option to purchase the property. If they choose not to do so, the option expires.

Documents

Often overlooked in a lease-purchase or lease-option agreement are the details of the lease period. It's important for buyer and seller alike to recognize that prior to the end of the lease period, one party will be the tenant and the other the landlord. As such, the seller should provide a standard rental agreement detailing all of the rules and obligations that would be expected of a renter. Likewise, the buyer should carefully review the rules.

Responsibilities

• During the lease period, the owner must obey all applicable landlord-tenant laws (lease provisions out of step with these laws are unenforceable, even if signed by the tenant).
• The buyer and seller must work out who will be responsible for expenses related to the home's upkeep, including repairs, taxes and insurance.
• In many cases (typically lease-purchase) the seller will require that the buyer approve a home inspection prior to the lease period. The buyer must sign off on the results of the inspection as a condition of the agreement. Once inspected, the condition of the home is accepted "as is". This is to prevent the occupant from causing damage during the lease period and requiring the owner to make repairs prior to purchase.
• In a lease-option, any money paid by the buyer towards the purchase of the home should be held by a third party and not disbursed until the purchase option is exercised and the deal closes.
• The buyer should always review the status of the property's title and insurance prior to signing the lease-to-own agreement.

Who Benefits from a Lease-to-Own Agreement?

While not for everyone, these types of purchase arrangements can be beneficial to a range of buyers and sellers. Purchase prices in lease-to-own agreements rarely reflect deep discounts, making them an option for sellers who want to ensure market value for their home. For motivated sellers (especially those who have purchased another home and cannot afford to leave the property vacant), a lease-to-own provides monthly income with either a guarantee or a strong chance of future sale.

Buyers without cash for a large down payment can use a lease-purchase/lease-option agreement to secure a home and build a payment over the course of the lease.

Relocated buyers new to the area can use a lease-option agreement to check out the neighborhood and the home before making the ultimate decision to buy.

Whether buying or selling, lease-purchase and lease-option agreements are far from the norm, and are best handled with close consultation from a real estate attorney who can review all documentation and provide expert advice at all stages.

Jim Starwalt

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Jim Starwalt, Broker Associate RE/MAX Center, Phone: 847-548-2625 Jim@StarHomeFinders.com