Whatever you call it – rent to own, rent to own homes, or lease to own – the same idea applies in every case. Today’s homebuyers seek the best of both worlds, getting a feel for specific neighborhoods without committing to a purchase. The advantages of a “rent to own” property are immeasurable.
Consider this: what if you could choose a neighborhood that you wanted to live in but couldn’t afford right now or weren’t ready to make such a large purchase? With the Rent to Own option, you can get into that house without committing to a 30-year lease. You can even have a percentage of your rent applied to the purchase price or closing fees, giving you equity at closing.
Keep in mind that you’ll need the seller’s agreement on not only the rent-to-own deal, but also the terms of the agreement. i.e., the term of the lease, which is normally one to two years; the proportion of the rent that goes toward the purchase price or closing fees, and so on. If you’re lucky, the seller might be willing to work with you on Seller Financing. Just make sure to get any agreement reviewed by a lawyer before you sign it. A small legal fee up front could save you thousands in the long run.
If you’re like the majority of homebuyers, you’ll need a mortgage to fund your new home. You must have a strong credit score and enough money for a down payment to qualify. The usual path to homeownership may not be possible without these.
However, there is another option: a rent-to-own deal, in which you rent a home for a set period of time with the chance to purchase it before the lease ends. A conventional lease agreement and an opportunity to buy make up a rent-to-own deal.
Here’s what to look out for and how the rent-to-own process works. It’s more difficult than renting, and you’ll have to take extra care to safeguard your interests. If you’re seeking to buy a house, this will help you determine whether the transaction is a suitable fit.
- A rent-to-own agreement is a deal in which you commit to renting a property for a specific period of time, with the option of buying it before the lease runs out.
- Rent-to-own agreements include a standard lease agreement and also an option to buy the property at a later time.
- Lease-option contracts give you the right to buy the home when the lease expires, while lease-purchase contracts require you to buy it.1
- You pay rent throughout the lease, and in some cases, a percentage of the payment is applied to the purchase price.
- With some rent-to-own contracts, you may have to maintain the property and pay for repairs.
Nonrefundable Upfront Fees
Lease-Option vs. Lease-Purchase
It’s crucial to remember that there are various sorts of rent-to-own agreements, some of which are more consumer-friendly and flexible than others. When your lease expires, you have the choice, but not the responsibility, to purchase the home. If you decide not to purchase the property at the conclusion of the lease, the option simply expires, and you are free to walk away without having to pay rent or buy. With lease-purchase agreements, this isn’t always the case.
It must be a lease-option arrangement to have the choice to buy without the commitment to buy. Because legalese can be difficult to understand, it’s always a good idea to have an experienced real estate attorney evaluate the contract before signing anything so you understand your rights and what you’re getting into.
Agreeing on the Purchase Price
Rent-to-own agreements should state when and how the purchase price of the home will be set. When the contract is signed, you and the seller may agree on a purchase price, which is generally more than the current market value. In other cases, the price is established at the end of the lease, based on the property’s current market worth. Many purchasers, especially in locations where property prices are rising, desire to “lock in” the purchase price.
Applying Rent to the Principal
You’ll be responsible for paying rent for the duration of the lease. Whether a percentage of each payment is applied to the final purchase price is the question. For example, if you pay $1,200 in rent each month for three years and receive a 25% credit toward the purchase, you will receive a $10,800 rent credit ($1,200 x 0.25 = $300; $300 x 36 months = $10,800). To compensate for the rent credit, the rent is usually slightly more than the prevailing rate in the area. But be sure you understand what you’re getting for your money.
Rent-to-Own Home Maintenance
You may be responsible for maintaining the property and paying for repairs, depending on the contract terms. This is usually the duty of the landlord, so check the tiny print of your lease carefully. Because the sellers are ultimately liable for any homeowner association fees, taxes, and insurance (it is, after all, their home), they usually prefer to cover these expenses. In any case, you’ll need a renter’s insurance policy to cover personal property losses and liability coverage in the event that someone is hurt while in your home or if you injure someone accidently.
Ensure that the contract specifies the needs for maintenance and repairs (ask your attorney to explain your responsibilities). Maintaining the property, such as mowing the grass, raking the leaves, and cleaning out the gutters, is not the same as replacing a damaged roof or bringing the electrical system up to code. Before signing anything, get the house examined, request an appraisal, and make sure the property taxes are current, whether you’ll be responsible for everything or simply mowing the lawn.
Buying the Property
What happens after the contract expires is partly determined by the sort of contract you signed. If you have a lease-option contract and wish to purchase the property, you’ll almost certainly need a mortgage (or other kind of financing) to pay the seller in full.
If, on the other hand, you decide not to buy the house—or are unable to get finance by the end of the lease term—the option expires, and you are forced to vacate the property, just like you would if you were renting any other property. You’ll probably lose any money you’ve spent up to that point, including the option money and any rent credit you’ve earned, but you won’t be obligated to keep renting or buy the house.
You may be legally required to buy the property when your lease expires if you have a lease-purchase arrangement. This can be difficult for a variety of reasons, especially if you are unable to obtain a mortgage. Lease-option contracts are nearly always preferable to lease-purchase contracts because they provide greater flexibility and eliminate the chance of being sued if you are unwilling or unable to purchase the home at the end of the lease.
Treat the process the same as you would if you were outright buying a home: Do your due diligence, research the area, compare prices with other nearby homes, research the contract, and research the seller’s history.
Before You Sign the Contract:
- Choose the Right Terms: Enter a lease-option agreement rather than a lease-purchase agreement.
- Get Help: Hire a qualified real estate attorney to explain the contract and help you understand your rights and obligations.
- Research the Contract: Make sure you understand…
- The deadlines (what is due when)
- The option fee and rent payments–and how much of each applies toward the purchase price
- How the purchase price is determined
- How to exercise your option to buy (for example, the seller may require you to provide advance notice in writing of your intent to buy)
- Whether pets are allowed
- Who is responsible for maintenance, homeowner association dues, property taxes, and the like
- What “maintenance” means: just mowing the lawn and raking, etc. or serious repairs, such as fixing a roof.
- Research the Home: Order an independent appraisal, obtain a property inspection, make sure the property taxes are up to date, and ensure there are no liens on the property.
Research the Seller: Check the seller’s credit report for symptoms of financial distress, and get a title report to discover how long they’ve owned the property and how much equity they have—the longer they’ve had it and the more equity they have, the better.
Double Check the Fine Print: Under some contracts, you lose this right if you are late on just one rent payment or if you fail to notify the seller in writing of your intent to buy.
The Bottom Line:
A rent-to-own agreement allows prospective home buyers to move into a home right away, giving them several years to improve their credit scores and/or save for a down payment before applying for a mortgage. Of course, the rent-to-own agreement stipulates that specific terms and conditions must be followed. Even if you have the assistance of a real estate agent, you should consult an experienced real estate attorney who can explain the contract and your rights before signing anything.