Frequently Asked Questions

What is a lease option agreement and how does it differ from a traditional rental?

A lease option agreement allows a tenant to rent a property with the option to purchase it at a later date. This differs significantly from a traditional rental because it grants the tenant a path to homeownership, building equity and stability, rather than simply paying rent with no ownership prospects. The key distinction highlighted in the sources is the legal structure: a traditional lease option might grant the tenant “vested rights” in the property, potentially requiring a full foreclosure process to remove them in case of default. However, the system advocated in the sources uses a “contract to deliver an option in the future,” meaning the tenant only receives a “contract right” that does not vest until specific conditions are fulfilled. This allows the landlord to evict a defaulting tenant using standard landlord-tenant procedures, avoiding the lengthy and costly foreclosure process.

What are the primary benefits for a landlord/seller using a lease option agreement?

Landlords/sellers gain several significant advantages by using lease option agreements. These include: above-market income (rents can be approximately 10% higher than similar properties); greatly reduced repair expenses (quantified as about 30% less maintenance costs, as tenants often take responsibility for minor repairs and improvements); tax-deferred income from the option deposit until the option is exercised or abandoned; low turnover, with an average tenancy of four to five years; minimal management effort due to tenants having an investment in the property; the ability to sell at full retail sales price as buyers lack the leverage of cash buyers; potential for property improvements made by tenants without compensation if they don’t buy; pre-set rent increases (e.g., 5% annually); and importantly, no loss of ownership rights until the option is officially exercised. The “contract for option” system ensures the landlord-tenant relationship is maintained, preventing the tenant from gaining premature property rights.

What are the main benefits for a tenant/optionee entering a lease option agreement?

Tenants/optionees also receive substantial benefits from these agreements. They gain a clean, functional home often with initial improvements, allowing them to identify with the property as a future home. They benefit from fixed monthly payments for a set period (e.g., two years, with modest pre-set increases), providing financial predictability. Crucially, they accumulate fixed credits for care of the home (e.g., $100 per month) which contribute towards a down payment. All deposits (initial payment, monthly credits) are credited towards the down payment. Many lessors offer credit counseling and connect tenants with mortgage brokers, helping them improve their credit and qualify for financing. Finally, they secure a fixed sales price for a set time, protecting them from market price increases.

How does the “contract for option” system prevent a tenant from acquiring “vested rights” in the property?

The “contract for option” system is specifically designed to prevent the tenant from acquiring immediate “vested rights” in the property upon signing the agreement.

Note.

Traditional lease option give the tenant a separate lease and separate option to purchase.
CFO or Contract for Option is a system of 2 documents: a lease and separate contract for option. The tenant does NOT get an option of any equitable interest in the property.

Instead of granting an immediate option, the agreement is structured as a contract to deliver an option in the future.

This means no right, title, or interest in the property is conveyed to the tenant until a series of defined events and payments have been fully completed, as stipulated in the contract.

This system has been successfully used for over 20 years without being challenged and defeated, ensuring that the landlord-tenant relationship remains paramount.

This legal distinction is critical because it allows the landlord to use standard eviction procedures in case of default, rather than the much more cumbersome and expensive foreclosure process that would be required if the tenant had a vested property right.

How are potential tenants found and screened for lease option properties?

The best way to find suitable tenants for lease option properties is by advertising in the “homes for rent” section of newspapers, starting the ad with “Rent-to-Own”. This targets individuals who desire homeownership but may not yet qualify for a traditional mortgage. Phone contact with prospective tenants emphasizes the owner’s willingness to help them purchase the property and accumulate a down payment over time. The sources specifically advise against targeting individuals from “homes-for-sale” ads, as they are usually qualified to buy and less interested in lease option terms. Tenants with no desire to own are generally avoided due to higher management and maintenance costs. Screening involves using specific forms (e.g., Tenant Application, criteria for approval, list of questions to ask) provided in the appendix, along with a detailed discussion of the lease and contract terms, emphasizing the importance of a perfect payment history for future mortgage qualification.

What happens if a tenant defaults on a lease option agreement?

If a tenant defaults on a lease option agreement under the system described, the landlord should be able to follow their state’s normal landlord-tenant procedures for eviction, as the tenant has no vested legal rights to the property. Late payments and lease violations are first addressed through mail, phone, and personal contact to try and preserve the buyer’s position. If these efforts fail, an eviction notice is served. Upon removal, the option deposit typically becomes the last month’s rent and helps cover required repairs and damages. The sources note that while the agreement states the option deposit is non-refundable, it is often more prudent to refund a portion of it in exchange for a peaceful departure and removal of belongings, as enforcing the non-refundable term has not been profitable in their experience. Minor maintenance issues are negotiated, while larger repairs present a challenge, sometimes leading to the landlord buying out the defaulting tenant for a peaceful exit.

How are the financial terms of a lease option agreement structured, particularly regarding payments and credits?

The financial terms typically include an initial payment (option deposit) and monthly payments that are generally about 10% above market rent. A portion of this monthly payment (e.g., $100) is credited towards the purchase price, accumulating over time to form part of the down payment. The initial payment and monthly credits are specifically noted as non-refundable partial payments for the right to be granted an option in the future, not as security deposits, although practically they often function as last month’s rent and security deposit if the option is not exercised. Credit for monthly payments is typically forfeited if payments are more than 15 days late or if late fees are unpaid. Tenants may also receive “letters of credit” for substantial improvements they make to the property, which are applied towards the purchase price. The purchase price itself can be fixed or determined by appraisal if the option is extended.

What legal considerations are most important for landlords when using lease option agreements?

The most critical legal consideration for landlords is to ensure the arrangement establishes a clear landlord-tenant relationship, rather than granting the tenant an immediate vested property right. This is achieved through the “contract for option” system, which stipulates that an actual option will only be granted in the future, after all lease terms have been fulfilled. This prevents the need for a costly and lengthy foreclosure process in case of default. Landlords must strictly follow their state’s landlord-tenant laws regarding security deposits, late rent notices, breach of lease notices, and other aspects. It is highly recommended to obtain and review state-specific landlord-tenant statutes, as they vary significantly. The “contract for option” is kept separate from the lease to reinforce that performance on the lease is mandatory for the future granting of the option, further protecting the landlord’s ownership rights.

Source: Brian Gibbons (www.REISkills.com).