Owning a home – it’s one of those things that we’re told we should do from early on in life. Home ownership is considered a status symbol that separates the middle class from the poor class. Wikipedia even states that a core pillar of the the American dream is owning property.
This is why even when living in a location where it’s better to rent than buy, many people are insistent on owning a home. Since the housing market bottomed out and loans are difficult to obtain, finding an alternative way to sell or own a home has become a necessity. One option is a “lease to own” contract between a buyer and homeowner. The future buyer will rent the property for a period of time, then have the option to purchase the home at the end the lease.
How it works:
Before moving into a lease to own property, both parties will agree on a sale price and lock it in. The buyer will usually be asked to put down a 3% to 5% non-refundable payment called an option fee. In most cases the potential buyer pays an inflated monthly rent, with the extra funds going towards the down payment. This gives the potential buyer time to build up the down payment over time while raising their credit score through other means. The rent to own arrangement helps sellers pay the mortgage in a house they may not be able to sell, and lock in their asking price. This seems like a dream come true for homeowners and buyers who may be in a bind. Like everything in life, if it looks to good to be true…it just may be. Let’s take a look at some of the pros and cons of the rent to own home agreements.
If done correctly the rent to own home can be a perfect fit. It helps both the owners and the sellers get the end result they are looking for.
No down payment: Renting to own lets people build up a down payment over time instead of having to come up with the large sum at once that most banks require at signing.
Try before you buy: For the buyers, renting gives the option of living in the house and exploring the neighborhood before locking in a 30 year loan. If they decide they hate the house or location, they can back out after the lease is up.
Broader Market: Homeowners now have a bigger eligibility pool when it comes to buyers. People that previously couldn’t purchase a home can now considered for future ownership.
Locked in price: This can be a plus for either the buyer or the seller. If the value of the home goes up, then the buyer already has a locked in price. If the houses loses value, then the owner won’t have to take the equity hit at the end of the rental lease.
There can be many setbacks when it comes to a lease to own contract for both the buyer and seller.
One mistake could mean losing it all: One late payment to the owner could mean that the contract has been violated and have stiff consequences.
Scams: If the owner of the house ends up losing the house, the buyer is out of a home and the extra money they invested. Homeowners have been known to do lease-option deals fully knowing that the home will be foreclosed on, leaving the buyer homeless and out of any money they invested.
Walking away can hurt: Either the buyer or seller walking away at the end of the lease can be a blow to the wallet. Buyers lose the option fee they placed down along with the rent credit they’ve been building up, while sellers can lose equity if the value of the home has dropped since the potential buyer moved in.
It costs more: Just like traditional rent to own situations, the buyer will pay more in interest fees over time.
Your credit may not cut it: Even after the option fee and inflated rent the buyer pays, renting to own doesn’t actually help their credit score by itself. Buyers may still not be able to get the loan at the end of the lease due to credit issues, and lose their entire investment.
Is it worth it?
In my opinion, renting to own a home is not worth it for the average person. In many cases, the buyer is set up to fail, and the seller usually has the advantage. There are just too many variables that can go wrong in a lease to own situation. The thought of potentially losing out of tens of thousands of dollars because the rent was late once is insane. Owners can lose out too, if the future buyer backs out or disappears the homeowner is stuck with a house that may have less market value. Until that title has been handed over, the person who is looking to buy is still in a renter/landlord relationship. If that relationship goes south, then the rent to buy option may go along with that. As much as lease-ownership situation is perfect in theory for the right folks, people can do bad things and take advantage of the situation. The potential consequences are high for both sides.
In most cases people will be able to find the right mortgage broker and make it work. If you can’t make the numbers work my advice is to fix your credit, save for a down payment and then go find that dream home. If you can’t afford a home loan don’t burden yourself with higher rent in a desperate attempt to be a homeowner.
If the decision to go through with the rent to own home happens, then go through the motions of actually buying the home. Get home inspections and do other homework on the property. Make sure to find a reputable lawyer write up and look over all contracts before moving in. Rent to own home ownership can be risky, but if done correctly and with the right people, then both sides can walk away happy.