Rent / Lease To Own Homes
Lease To Own Homes from the buyer's and seller's perspective:
You've just bought the home of your dreams.
Packed the moving van loaded the kids and the dog-- you're all set…right? Not if you haven't sold your current home first.
So you put it on the market and you wait for a buyer to come...
...And you wait.
And you wait some more but buyers are not coming.
In many cities where it makes more financial sense to rent than own, buyers simply are not interested in buying a house.
In other cases, buyers may come along but they don't have enough money saved for a down payment or their credit isn't good enough to get a mortgage.
How will you ever sell this house?
One way is to offer lease to own homes, also known as rent-to-own.
The process works simply.
* Renters pay a certain amount each month to live in the house and at the end of a set period -- generally within three to five years -- they have the option to buy the house for a predetermined price.
Each month of rent they pay is income for the seller, while a portion of it goes toward a down payment to eventually buy the home.
Both the renter and the seller need to be very clear about everything before signing the contract they draw up before they agree to this arrangement.
Lease to own homes have their advantages and disadvantages for both parties.
- Sellers who have bought and have already moved into the new house will be relieved of making two mortgage payments at once.
- In a slow housing market with a lot of homes for sale this may be their best option to avoiding foreclosure from having to make mortgage payments, property tax, insurance and upkeep on a vacant home.
- Buyers who don’t have perfect credit and don’t qualify for a new loan or don’t have enough money for the down payment can now afford a house an may be able to get one more quickly.
What's Involved In Lease To Own Homes?
So your house has been up for sale for months and you’ve had very little interest or offers.
You can no longer afford to make mortgage payments on both your old and new homes and you are starting to fall behind.
You're becoming desperate to sell but don't want to lose any more money. Now may be time to consider lease to own homes.
Before you enter into an agreement with anyone, the sellers have to decide the sale price and rent they'll charge for their house.
If you end up dealing with a knowledgeable buyer both amounts will subject up for negotiation just like in a regular sale.
Both the sellers and the buyers need to remember that once the purchase agreement is signed the sale price of the house is locked in until the end of their rental term which can be between three and five years.
Even if housing prices rise or fall in the neighborhood during that time the original agreed-upon price in the purchase agreement is final.
Upon signing the purchase agreement the renters also have to pay an option fee and then a monthly rent premium.
The option fee is a set amount that the renter pays to the seller for the right to buy the house in the future for a predetermined price set out in the purchase agreement.
If at the end of the lease period the renter buys the house the option fee becomes part of the down payment however if the renter doesn't buy the house the option fee becomes income for the seller.
Rent premiums are an amount slightly above the typical market rent with a portion of that money going toward a down payment when the renter buys the house. This is also income to the seller if the renter does not buy the house.
Lease To Own Homes - EXAMPLE
Here's a typical example of a Lease to Own:
- The house is worth $200,000, and typical rent would be $1,000 a month.
- Someone who's renting to own might pay $1,200 a month in rent and then receive a $250 rent credit each month.
- Add the option fee which in this example will be $5,000.
- On a five-year lease agreement the renter would earn $15,000 in rent credits.
- Adding the earned rental credits to the option fee the renter has forced saving of $20,000 for a down payment.
This is a valuable alternative for buyers who otherwise wouldn't have the credit score or money saved to buy their own home.
Now the sellers who is eager to relieve themselves of the burden of making payments on their old home earn this money whether or not the house sells once the leasing period expires.
If at the end of the contract, if the renter can't or chooses not to buy the house then the seller keeps all the money and either lists the house for sale or does another lease to own homes deal.
As with any business contract, there are mutual risks and disadvantages involved for both parties.
- What if someone else wants to purchase the house for a higher price than originally negotiated?
- Who's responsible for fixing the leaky roof or the plugged toilet in the middle of the night?
Read on to discover the advantages and disadvantages for each side of the lease to own homes transaction...
Risks and Benefits to Buyers
For many people, a home will be the single largest purchase they ever make in their life time. Both buyers and sellers should carefully weigh their options before agreeing to any binding contract.
Let's consider some advantages and disadvantages for buyers:
• Buyers have time to build up savings and repair their credit history as they rent the home of their dreams.
• Depending on the agreement the renters can walk away if they find something seriously wrong with the house. Although the renter will lose the option fee and all their rent credit money they have invested assuming that amount will be much less than if the renter had bought the house outright and tried to leave it later.
• This is not a no money down deal because the buyers still have to pay the upfront option fee. It's usually a percentage of the agreed-upon selling price of the home and is often a few thousand dollars. Although this money will go toward the down payment should the renter decide to buy the house at the predetermined date in the future, it can still be difficult to accumulate that much money.
• Be very careful and make sure you read the entire agreement!
With some agreements if the buyer is just one day late on a month's rent payment it could void the rent credit for that month. Think about out the previous example where the five-year renter received a $250 rent credit each month. If the buyer paid the rent late just three times each year over the 5 year lease period the buyer would have $3,750 less for the down payment. The buyer in a lease to own homes agreement must pay on time, every time.
• If the seller fails to pay his original mortgage on the house you may find one day that the house has been foreclosed and the new owner is the bank. Should this happen you would lose everything and be forced to move.
• At the end of the rental period if you as the buyer are still not be able to buy the home for the same reasons you couldn't buy it at the start of the lease: bad credit, insufficient down payment, not enough income. You as the buyer must use your option time to fix anything that would prevent you from getting a new mortgage at the end of your term.
All those repairs that used to be somebody else's problem when you rented in the past often become the responsibility of the new buyer, even during the rental period.
Whether it means climbing on a ladder to unclog the gutters or having to pay for a new washing machine when the original washer breaks the renter has to take care of it.
You no longer can just pick up the phone call the landlord and tell him to send someone over to fix something when it breaks.
If you are the seller in a rent-to-own arrangement, the next section discusses the ins and outs of the deal from your perspective tenant buyer.
Risks and Benefits to Sellers
Let’s consider some pros and cons sellers can expect in lease to own homes:
• If home values are falling, sellers can lock in a higher price at the start of the agreement however if values are going up you will not be able to renegotiate the selling price.
• Renters who are looking to own generally treat their living space better than just a renter. They're planning for their future, instead of living in a place they'll vacate in a year or so they are thinking and making long term improvements.
• If a renter does back out at the end of the contract the seller still has the option fee and rent premiums as income however the seller is back to square one which may be difficult to deal with for some homeowners who just want to be free of their old house especially if they moved to another state.
• If a new potential buyer comes along who wants to purchase the house for a higher price the seller is not able to renegotiate the selling price. The seller entered into a contract with the renter, and they have to live by it.
• Many sellers use the rent they earn to pay the existing mortgage on their old home which eases their financial burden. If the renter can't make payments, very few sellers can afford to pay both their old and new mortgages which could force them into foreclosure.
Because of the many concerns on each side of the Lease to Own Homes transaction, I strongly suggest that both buyer and seller should obtain the assistance of a real estate attorney.
Each should have their own attorney representing their own interest.
This will add to your transaction cost but it could save you thousands of dollars in the future so that each party is fully aware of its rights and responsibilities.
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