Rent-to-Own - A Good Option? Maybe . . . Maybe Not!

Real Estate Agent with Dean's Team - Keller Williams Realty Partners Chicago IL

Here in many of the North Side of Chicago Neighborhoods our Team works extensively, good housing deals abound. Most Chicago Home Sellers are getting used to the new reality of lower market prices on their homes, while others must sell due to their own economic uncertainty.

Mortgage Interest Rates remain at historic lows, and many consider current prices for many types of homes, investment properties, and some condominiums to be at or near their market bottom - although, of course, that is difficult to most accurately predict.

For some potential buyers, however, their own financial hardship or lack of a down payment still puts the dream of home ownership out of reach. Many have called our Team asking about Renting-to-Own, or Rent with Option to Buy. Here, a condo or home is leased, with the written option to purchase the home after a certain, specified period of time.

Often, the suggested documentation for those considering a Purchase Option include the Standard Residential Lease, plus an included Addendum. Depending on the circumstances, the Addendum can include a pre-agreed purchase price at the end of the lease term. This is sometimes written as a formula, perhaps tied to an appraisal or a couple of appraisals at the end of the rental term.

Some Agreements contain an option for extending the rental term for an additional period of time, Many include a credit toward down payment for a portion of each timely monthly rental payment.

However, many Rent-to-Own or Purchase Options don't really provide a likely benefit to the potential deferred home buyer. Indeed, in our experience, the majority of such Option Agreements are rarely exercised, and the tenant ends up leaving the rented property, without benefit, at the end of the lease term.

There are several things that make such purchase options less than ideal, and, sometimes, more costly than purchasing with low down payment FHA or VA Mortgages, if one qualifies -

  • Very few Sellers put a definite, guaranteed purchase price in an Option Lease, since neither Lessor or Lessee would have any advance knowledge of how the rental or sale market will be at the end of the lease term. Instead, an agreed-upon end-of-term "Market Value," based on two or three appraisals, would set the price. Appraisals are subjective, however. If they run high, the potential Option Buyer may be paying a somewhat inflated price.
  • Some Sellers require "Option Money" to turn a conventional lease into an Option to Purchase. Others inflate the rent, sometimes significantly, in order to offer a down payment credit at the end of the lease term. If the Option is not exercised at the end of the rental term, or if it cannot be exercised in the event the buyer cannot qualify for a Mortgage Loan at that time, the Option Money or Monthly Down Payment Credits are typically lost to the landlord, without refund.
  • There are none of the typical Home Owner Tax Benefits during the rental term. The Lessee enjoys no tax deduction for Mortgage Interest, and no deduction for Real Estate Taxes. The lack of these tax benefits make the Option that more expensive.
  • Some Option Leases require the Lessor to pay maintenance expenses and repairs - small or big - on the property while they rent there. If the option is not exercised, the Tenant has paid good money to repair someone else's house or condo! Also, if the property turns into one that requires major repairs or remediation items, there is rarely protective language requiring the Seller to contribute.
  • Virtually all Rent-to-Own or Purchase Options are Voidable for Non-Compliance. Generally meant to keep Lessees from neglecting their last few monthly rental payments, they can also be used to void the Purchase Option even if a rent payment is late for unforeseen reasons or temporary hardship.

Of course, there are situations when an Option Lease can be advantageous to both parties, especially if the Lessee/Buyer is expecting an increase in income or assets at the end of the Rental Term, making the Purchase Transition an easier one.

However, Option Leases are often tricky, requiring the right Real Estate Professional, Tax, Accounting, and Legal Advice to work out win-win for both the Home Seller, and the Prospective Lessee/Buyer.

Let us know if you would like our advice, or would like to share your experiences.

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Doug Dawes
Keller Williams Realty - Topsfield, MA - Georgetown, MA
Your Personal RealtorĀ®

I hear this potential option being discussed more and more. People really have to take into consideration what it takes to be a landlord

Aug 23, 2012 01:54 PM #1
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Dean Moss

Dean's Team Chicago IL Real Estate Team
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