Rent to Buy Lease Option Frequently Asked Questions May 2016
Q: What is a Rent to Buy Lease Option?
A: A Rent to Buy Lease Option is the lease of a property with the option to purchase it. It is known by many names: a Rent to Own, Rent to Buy or Lease Option. The Transaction is coupled with a non-refundable Lease Option Deposit which is credited to the purchase Price if the Buyer exercises the option to purchase and is retained by the Seller if not. The Option period is up to the parties, one to three years is most common, during which time the Buyer saves up the downpayment needed to purchase. The Seller can either provide Seller Financing for the Sale, if willing and able, or the Buyer can obtain a loan.
Q: Why does the Ren to Buy work in an unstable real estate market?
A: People are more open to creative sales in an unstable marketplace. They don't want to move on until the market stabilizes, but life goes on and their housing needs change. The lease option allows a seller to get out from under payment while the buyer decides whether to buy the property. The buyer needs new housing too, but is concerned about pricing and loans. With the lease option, the Buyer moves into his new home without yet committing to a purchase but with the absolute right to purchase.
Q. Price is the issue. How is that set?
A: Following the real estate recession of 2007 Sellers struggle to justify selling into a discounted market that undervalues their homes, feeling that a few more years may bring a higher price. And buyers defer their dream of home ownership having lost so much of their nest egg in the recession. Marilyn has created the Market Modulated Lease Option to meet these challenges. This new lease option arrangement allows the property's price to be set later, not now, and gives the Buyer enough time to replenish the down payment funds.
Q. Does price have to be set by the market later? What if we want to set it now?
A: It can be set now, if that's what the parties want. Our forms just give you the opportunity to let the market modulate it later. Our format includes both options.
Q. If we go with a market modulated price, how is it determined?
A: By appraisal at the time agreed to.
Q. If we want to agree to price now, can we get an appraisal now?
A: It is always a good idea to get an appraisal done, especially when real estate agents are not involved to help you set right price.
Q. When do the parties sign the Rent to Buy Agreement?
A: When they decide to go ahead, they sign the Lease Option Agreement, an 11-page document consisting of an option agreement, a lease and a purchase agreement.
Q. Shouldn't the Lease Option Buyer conduct due diligence?
A: Yes. When the Agreement is signed, the Prospective Buyer puts up a refundable deposit and begins a 20 day contingency period to investigate the property. If the Buyer decides against the lease option, the deposit is returned and the agreement becomes void. Purchase our Lease Option Coach for a detailed checklist of each of these steps and more. Our forms, available at our Products page, help you perform the steps of the transaction and release applicable contingencies as you go along.
Q. When is the Option Deposit paid?
A: An initial refundable deposit is made when the Lease Option Agreement is signed. After the inspection contingency is removed, the remaining option deposit is paid.
Q. When do the Option Deposits become non-refundable?
A: As soon as the inspection contingency is removed.
Q. Why is it important to have an Option Deposit?
A: To give the Rent to Buy Buyer a financial stake in the property as an incentive for the purchase option to be exercised. This is why it has to be non-refundable.
Q. Is the Option Deposit always credited to the purchase price if the option is exercised?
Q. How is the Rent to Buy rent amount set?
A: It is all a matter of negotiation but typically it is fair market rent for a similar property.
Q. What if the Seller is out of pocket (the rent doesn't cover the property's payments)?
A: This Seller may want to set a rent that increases each month the purchase option is not exercised. This will motivate the potential Buyer to purchase sooner and will help the Seller defray out of pocket costs.
Q: Is there an additional option deposit that is paid each month?
Generally, yes, but everything is negotiable. The seller wants to see the Buyer put up as much in deposit as possible. A standard for the option amount is 20% of the monthly rent.
Q: Does the Seller get to use the Option Deposit?
A: Typically, the option deposit goes directly to the Seller when it becomes non-refundable, but the parties can agree otherwise. Since the rent amount often does not cover the property's expenses, the Seller needs this fund to pay property expenses beyond the monthly rent. The Seller too may need the lease option deposit to lease option his next home. Don't worry about your investment since a Memorandum of Lease Option Agreement is recorded on the property securing your lease option right.
Q: Is interest paid on the Option Deposit?
A: Generally no, but the parties may agree otherwise.
Q: How long is the option term (the time within which the Buyer can buy)?
A: It can be whatever the parties agree to. Our Lease Option Coach discussed alternatives. If a Seller believes the market will rebound but not before 2 years, the Seller may ask that the purchase option not be exercised before 2 years at which time the purchase price will be set. Or, the option term can begin immediately. There are too many variables to list. Purchase our Lease Option Coach for more details.
Q: Does the Buyer have the absolute right to purchase the Property?
A: Yes, a Memorandum of Lease Option is recorded on the property to legally secure this right. The Memorandum is one of the forms available on our Products page in our Related Forms package.
Q. Can the Potential Buyer make improvements to the property?
Yes, with the consent of the Seller who wants to make sure the improvement will add to the property's value in case the Buyer does not purchase the property or for appraisal later if the price will be set later.
Q. Is there a loan contingency to the Rent to Buy Lease Option purchase?
A: Yes, but not the in the traditional sense. The buyer does not have to purchase if a loan cannot be obtained, but he will lose his option deposit. The buyer, therefore, wants to make sure he qualifies for the required loan as he nears the purchase date.
Q. What if the market continues to go down so when the Buyer is to exercise the price is lower than when the lease began?
A: This is why the parties may want to choose the Market Modulated method of setting the purchase price. In this manner, especially in these times when prices are going down drastically, the buyer knows that the purchase paid will be the property's then value.
Q: The 2 most important terms of the lease option seem to be when the option can be exercised and when the value will be set. How do we arrive at a decision about these important factors?
A: Through studying the market and the Buyer and Selling each coming to an educated guess as to when the market will bottom. Then, negotiating something between these variables.
Q: What if I need more information?
This page was edited May 2016.