FAQ Lease Options Overview

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Lease options have been around a very long time. It’s when someone leases a property and then has the option or choice to buy. It does not have to buy. It has the choice to buy. It’s also called lease purchase where you lease for a while and then purchase down the road. That’s not an option, but you will lose your earnest money if you don’t fully close on a purchase and sale agreement.

The Many Benefits Of Lease Purchasing

Lease Purchasing affords wonderful benefits and opportunities to sellers, buyers, investors and those who would like to operate a home-based business. Lease Purchasing allows you to control property without ownership which has benefits for all.

What Is A Lease Purchase?

A Lease Purchase is a process that combines a basic rental lease with an agreement to purchase, or with an option to purchase the property. The Buyer (or Lease-Purchaser) pays to the seller a monthly payment that usually approximates a rental amount or a typical mortgage payment on the home. A percentage of that payment is typically applied towards the purchase price. At the end of the term, the buyer has the right to purchase the property for the price and terms to which both parties have previously agreed.

Put another way, a lease purchase is essentially a rental agreement combined with a purchase contract with pre-negotiated terms. The buyer leases the property for a specific period of time and then purchases the property before the end of the lease agreement. Sales price, length of rental, rent credits, escrow instructions, etc., are all contained in the agreement.

A lease purchase is a wonderful way to control property without the headaches of banks, mortgages, taxes or immediate loan qualifying. Lease Purchasing gives you the right to buy the property, but not the obligation to buy.

Following are just some of the benefits of Lease Purchasing.

Benefits For Buyers

Low down payment.
Qualification restrictions are not as great as in conventional financing.
Past credit problems are not usually a road block.
The option consideration can be fully credited to the purchase price.
Your rent money is working for you.
Purchase price is usually locked-in ahead of time.
Gives you sufficient time to check out all the features and faults of the house.
Time to check out the neighborhood.
Puts you in legal control of a property for a specified period of time.
Time to shop for and obtain the best financing.
Major maintenance and repairs are the responsibility of the owner; you take care of nothing but minor maintenance.
Profits, in case appreciation occurs and you decide to sell in the future.

Benefits For Sellers

Usually top sales price for the property.
Better quality tenants.
Higher rent than usual for the market area.
Non-refundable option consideration.
All minor maintenance is delegated to the tenant/buyer.
Seller remains on the deed.
Seller retains the tax shelter.
No fees to pay.

Benefits For Investors

Maximum leverage.
Minimum cash outlay.
Minimum risk.
No maintenance.
Wonderful cash flow.
Excellent profit potential.

Benefits For The Business Owner

Little start-up capital needed.
Little or no credit needed.
Wonderful cash flow can be generated immediately.
Excellent and realistic first year income can be achieved.
Business can be started simply, no major equipment to buy.
Business can be operated full time, part time or in your spare time.
Best of all, the business can be operated from your own home office.

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Lease/Option FAQ

What is a lease/option?

A lease/option is a real estate transaction that combines a lease agreement with an option to purchase the property. It involves two separate agreements: a lease agreement that allows the tenant to occupy the property for a specified period, and an option agreement that grants the tenant the right to buy the property at a predetermined price within a given timeframe.

What are the advantages of a lease/option for a tenant/buyer?

Lease/options offer several advantages for potential homebuyers, particularly those who may not immediately qualify for a traditional mortgage. Some key benefits include:

Time to improve credit: Tenants have time to repair their credit score and build their financial profile before applying for a mortgage.
Lock in purchase price: Tenants can secure the property at today’s price, potentially benefiting from future appreciation.
Trial period: Tenants can “try before they buy,” experiencing the property and neighborhood before committing to a purchase.
Potential rent credits: Some agreements apply a portion of the rent payments towards the purchase price if the option is exercised.

How does a “sandwich lease/option” work?

In a sandwich lease/option, an investor (the “sandwich” in the middle) secures a lease/option agreement with the property owner. They then sublet the property to a tenant/buyer, offering them their own lease/option agreement. This strategy allows the investor to:

Generate cash flow: By subletting at a higher rent than they are paying the owner.
Profit from the option spread: The difference between the option price they offer the tenant/buyer and the price they pay when exercising their own option.
Control the property without ownership: Limiting their financial risk and upfront investment.

What are some important legal considerations for lease/options?

Clear and comprehensive agreements: All parties should have a thorough understanding of the lease and option terms.
State and local regulations: Compliance with specific state laws and local ordinances governing lease/option agreements is crucial.
Avoiding “equitable mortgage” classification: The agreement should be structured to avoid being deemed a disguised mortgage by courts.
Due-on-sale clauses: Existing mortgage on the property may have a due-on-sale clause, which could impact the lease/option arrangement.

How can I find lease/option properties?

Several strategies can help you locate potential lease/option deals:

Target motivated sellers: Owners facing financial difficulties, relocation, or property vacancies are more likely to consider flexible terms.
Direct mail marketing: Send targeted postcards or letters to absentee owners or landlords.
Networking with real estate professionals: Connect with real estate agents, mortgage brokers, and other investors who may know of suitable properties.
Online resources: Explore specialized websites and forums that focus on lease/option listings.

What should I consider when screening potential tenant/buyers?

Financial stability: Verify income, employment history, and debt-to-income ratio to ensure they can afford rent payments and potentially qualify for a mortgage in the future.
Credit history: While a lease/option offers time for improvement, understanding their credit situation is crucial for assessing their likelihood of securing financing.
References: Contact previous landlords to inquire about rental history, payment patterns, and property care.

What happens if the tenant/buyer defaults on the lease or fails to exercise the option?

Lease default: Standard eviction procedures apply, as with any typical lease agreement. The investor may lose rental income but retains the option and can find a new tenant/buyer.
Option not exercised: The investor keeps the option fee and can continue subletting or pursue other exit strategies.

What are some tax implications of lease/options?

Investor’s perspective: Tax treatment depends on their intent and activities. Holding for investment may qualify for capital gains treatment, while frequent buying and selling might classify them as a dealer with ordinary income tax rates.
IRS scrutiny: Lease/option agreements can attract scrutiny from the IRS, which may recharacterize the transaction as a sale if certain conditions are met. Consulting a tax professional is advisable for navigating these complexities.