Rent-to-own real estate may sound like a dream come true. Under the best circumstances, everyone benefits: Sellers collect rent and have a purchase commitment from the buyers, and the buyers can move in right away.
In addition, credit score problems or other financial issues that could hamper a buyer’s ability to get a mortgage matter much less in a rent-to-own agreement than when you’re buying a house right out.
Either way, though, buying a home is still a major financial commitment. While rent-to-own real estate contracts may not be traditional, they’re not necessarily always less complicated than negotiating on a purchase price and getting a loan.
You may not need to come up with a big down payment or have the best credit score to enter into a rent-to-own agreement, but still, this type of contract isn’t always easy to manage.
The key to a smooth transaction is ensuring that you understand the entire process. Here’s what you need to know about rent-to-own homes, as well as the risks involved for buyers.
Why choose a rent-to-own agreement?
Ordinarily, sellers don’t like being landlords. They prefer to get their money in one lump sum and avoid dealing with tenants.
Rent-to-own homes are more common when there is a downturn in the real estate market and numerous homes on the market are vacant. Under a rent-to-own plan, the seller can lock in a price before the market drops further.
But it can be a great choice for tenants, too. While leasing can be a great option, you might be tired of looking for homes to rent. In fact, maybe you’re finally ready to buy that forever home.
However, the high recent purchase price on homes in your area may seem daunting, and you might know that you can’t afford a hefty down payment. This is when a rent-to-own contract might work for you.
Terms of rent-to-own real estate
Always read your contract closely and be sure you can handle the terms. The rent-to-own real estate contract should include the home price, the cost of rent, and the deadline that establishes when you should exercise your option to buy.
It should specify what portion of the rent payment is credited toward the home purchase—or if you need to write two checks each month, for the rent and for the home payment—and under what circumstances the contract can be voided.
You should make certain that there is no language allowing the landlord to evict you for a minor infraction after you have made a substantial financial investment.
It’s worth the expense to have an experienced real estate attorney look at your lease-option contract to make sure you are protected.
When the agreed-upon lease option expires, the tenants will get the chance to buy the house.
Most of the money the tenants have invested in the house is going towards the purchase price, so if they are able to qualify for a home loan, they can be in a good place to buy the house.
If, however, they aren’t able to swing a home loan, and can’t afford the house, they could be out more money than they would be if they had simply been renting during the period.
Renting to own may at first seem like a lease agreement with a pot of gold at the end.
However, if you’re not careful, the deal could go south, and you could end up in big financial trouble. Don’t let your excitement over becoming a homeowner keep you from doing your homework.
Rent-to-own home fees
There are extra fees when it comes to rent-to-own properties, including an option fee and maintenance fees.
The option fee is likely to cost between 1% and 5% of the purchase price. Tenants also can expect their rent to total slightly more than the market rate during the lease.
Usually, all or part of the option fee will be set aside as a down payment. While the home is being rented, the landlord retains ownership but often requires the tenant to assume responsibility for maintenance.
Remember that maintenance on a house can be expensive, so consider carefully what state the house is in before agreeing to a rent-to-own property.
Know the risks of rent-to-own real estate
Buyers can get plenty of benefits out of rent-to-own agreements—but not without some big potential roadblocks.
In many cases, buyers are counting on being able to rebuild their damaged credit rating while living in the rent-to-own home and paying above-market rent.
To benefit, they must be able to get their finances in order and qualify for a home loan before their lease option expires.
Should the market drop significantly, the buyers/renters may end up owing a lot more on a house than it’s worth. It will also be harder to move out should their lifestyle change.
Leasing with an option to buy can be a good financial tool if you know what you’re doing. You could make plans for buying a house without needing to qualify for a home loan or ponying up a hefty down payment.
Make sure that before you go the rent-to-own real estate route, you talk to a lender or mortgage broker to make sure that you will be able to qualify for a loan.
Updated from an earlier version by Emmet Pierce
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