Questions about rent to own

[Ben Russell]

We just finished a flip that is listed on the MLS. We decided to also offer it as a Lease with a 3-year option to buy. Having never done one of these, can I get some feedback on how we structured the option and pose some questions:

-Option price would be $263k (listed at 260)

-3-year option.  Each year the option is not activated, the price increases 1%.

-1750 monthly, with a $150 credit going towards the purchase price/down payment.  Rent credit is non-refundable. Market rent is around 1500-1600.

-5% option fee going towards the price/down payment.  This amount is not refundable and would be based on good credit (% would increase for credit below 730).

-Would still ask for a security deposit and our standard rental qualifications.

-Additionally, a lawyer would draft the lease and option contract.

Questions:

-Will most lenders accept the option fee and rental credit at closing as a seller concession, going towards the buyers down payment?  Is there a better way to ensure the money can be used as part of the buyers down payment?

-A few people have asked if the options fee and credit is escrowed.  Is this standard practice?  I get the safety net for the buyer, but at the same time we cannot sit on that money for up to 3 years.

-Is there any other considerations?

Thanks!

[Account Closed]

Quote from @Ben Russell:

We just finished a flip that is listed on the MLS. We decided to also offer it as a Lease with a 3-year option to buy. Having never done one of these, can I get some feedback on how we structured the option and pose some questions:

Well, I've done a lot of these and this is my favored package:

I have had lineups each time I put a Lease Option to the public.

There needs to be two agreements, an Option Agreement and a Lease Agreement. For simplicity they both need to start the same day and end the same day. Each adult needs to be a signatory to the Agreements. The contracts and how they are written is extremely important. When I've been sued, I've won.

It needs to be handled and documented in Escrow with Title and include appropriate Disclosures.

I couldn't care less about their credit. Since they don't have to qualify using a bank, there is added value to them on the transaction. I sell for 10% above market value. No step up in following years. They pay 10% as a Non Refundable Option Fee. The money is not escrowed, no need to, it's non refundable. Option fee gets applied to the option amount when they exercise the option. I offer a two year lease option. 3 years is too long in my opinion but if you are simply looking for cash flow, 3 years is fine.

Since they are providing 10% down, I don't have them put down a security deposit. The non refundable option fee is plenty. 

Their monthly payment is 10% above what the place would rent for as a LTR. Since they don't have to qualify using normal criteria, there is added value to them on the monthly so there is an up charge. Taxes and insurance costs are "covered" in the rent. (People don't pay taxes and homeowners Insurance on properties they don't own.)

They can "refinance" anytime they can qualify for outside financing. The option fee counts as a down payment when talking to future lenders.

Monthly rent has NO credit going toward the purchase price/down payment. Rent credit is not used.

If you choose to allow this, make sure you keep accurate records and don't commingle funds.
B3-4.3-12, Rent Credit for Option to Purchase

https://selling-guide.fanniemae.com/Selling-Guide/Originatio...

They are responsible for repairs and maintenance. I don't have a property manager on them since I have 10% down, they take care of the place as though it's their own. I never hear complaints, or have toilets to unplug, snakes to remove or ants to kill.

I've put together a spreadsheet that shows how all of this works. If you'd like a copy just DM me. Click to

https://www.biggerpockets.com/users/mikeh695 & Tap the message icon in the upper right corner of your screen

[Ben Russell]

Quote from @Mike Hern:

Quote from @Ben Russell:

We just finished a flip that is listed on the MLS. We decided to also offer it as a Lease with a 3-year option to buy. Having never done one of these, can I get some feedback on how we structured the option and pose some questions:

Well, I've done a lot of these and this is my favored package:

I have had lineups each time I put a Lease Option to the public.

There needs to be two agreements, an Option Agreement and a Lease Agreement. For simplicity they both need to start the same day and end the same day. Each adult needs to be a signatory to the Agreements. The contracts and how they are written is extremely important. When I've been sued, I've won.

It needs to be handled and documented in Escrow with Title and include appropriate Disclosures.

I couldn't care less about their credit. Since they don't have to qualify using a bank, there is added value to them on the transaction. I sell for 10% above market value. No step up in following years. They pay 10% as a Non Refundable Option Fee. The money is not escrowed, no need to, it's non refundable. Option fee gets applied to the option amount when they exercise the option. I offer a two year lease option. 3 years is too long in my opinion but if you are simply looking for cash flow, 3 years is fine.

Since they are providing 10% down, I don't have them put down a security deposit. The non refundable option fee is plenty. 

Their monthly payment is 10% above what the place would rent for as a LTR. Since they don't have to qualify using normal criteria, there is added value to them on the monthly so there is an up charge. Taxes and insurance costs are "covered" in the rent. (People don't pay taxes and homeowners Insurance on properties they don't own.)

They can "refinance" anytime they can qualify for outside financing. The option fee counts as a down payment when talking to future lenders.

Monthly rent has NO credit going toward the purchase price/down payment. Rent credit is not used.

If you choose to allow this, make sure you keep accurate records and don't commingle funds.
B3-4.3-12, Rent Credit for Option to Purchase

https://selling-guide.fanniemae.com/Selling-Guide/Originatio...

They are responsible for repairs and maintenance. I don't have a property manager on them since I have 10% down, they take care of the place as though it's their own. I never hear complaints, or have toilets to unplug, snakes to remove or ants to kill.

I've put together a spreadsheet that shows how all of this works. If you'd like a copy just DM me. Click to

https://www.biggerpockets.com/users/mikeh695 & Tap the message icon in the upper right corner of your screen

Mike,
Thanks for sharing your method. 

A few questions:
What do you mean by  escrowed and title, which I'm assuming is during the lease phase?  What funds are escrowed and what goes to title? I understand this concept once the option is executed,  but not sure how this would apply prior. 

Under your scenario, is any of the option fee used as the down payment? If so, how is it applied? As a seller concession?  

thanks for the help

Ben

[Account Closed]

Quote from @Ben Russell:

Quote from @Account Closed:

Quote from @Ben Russell:

We just finished a flip that is listed on the MLS. We decided to also offer it as a Lease with a 3-year option to buy. Having never done one of these, can I get some feedback on how we structured the option and pose some questions:

A few questions:
What do you mean by escrowed and title, which I'm assuming is during the lease phase? What funds are escrowed and what goes to title?

Under your scenario, is any of the option fee used as the down payment? If so, how is it applied? As a seller concession?

Good questions, let me clarify

When you purchase a property, you hire an Escrow company to handle the transaction as a third party. That way everything has a level of safety. Money is held by "escrow" (The Escrow Company) for the time it takes to get all of the paperwork done, then the "closing" occurs and that money from the buyer, is wired to the seller. 

Apparently, in the distant past, sometimes people wouldn't actually transfer funds. Imagine that ;-) And that ended up in lawsuits. So, Escrow companies are the intermediary that handles things so the "closing" happens swiftly and legally. There are other uses of the word "escrow" in real estate as well, so you need to know the context.

"Title" is referring to the Title Company that provides the Title Insurance. It is wise to have Title Insurance if you are buying a property. The Title company does  a search to see if the person selling has the legal capacity to sell, to find any  other owners, mortgages and liens on the property and to identify anything that may affect ownership to the new buyer.

This is all done prior to signing for transferring ownership.

It is not related to doing the Lease or the Option.

Yes, the option fee is used as the down payment. It gets deducted from the original option price.

[Bill Brandt]

Your transferring the title in to their name and yourself as the lender? (Assuming it’s fully paid off?) Or what is your process to guarantee that they don’t lose their money if you decide to sell to someone else or get sued and lose the property?

As the same time you have to be careful about giving them a vested interest in the property. 

[Account Closed]

Quote from @Bill Brandt:

Your transferring the title in to their name and yourself as the lender? (Assuming it’s fully paid off?) Or what is your process to guarantee that they don’t lose their money if you decide to sell to someone else or get sued and lose the property?

As the same time you have to be careful about giving them a vested interest in the property. 

@Bill Brandt: Your Question: "Or what is your process to guarantee that they don’t lose their money if you decide to sell to someone else or get sued and lose the property?"

The Option Agreement covers all of that.

[Ben Russell]

Another question, what percentage of potential buyers end up exicuiting the purchase option by the end of the term?

[Account Closed]

Quote from @Ben Russell:

Another question, what percentage of potential buyers end up exicuiting the purchase option by the end of the term?

About 2 out of 3 in my world.

[Steve Vaughan]

I just did like my 13th one as the Optionor/ seller.  Depending on the asset (mobiles had a dismal exercise record) about 3 out of 5 exercise.   I also allow assignment of the Option.  Had a few 11th hour assignments.

Mine are 12 months, renewable twice with additional consideration.   Like yours, the exercise price rises a little with each renewal also. 

I don't offer purchase credits with rent like your $150/ mo.  It may be seen as amortization and a disguised sale and will cause problems.  An alternative might be a 1 or 2% closing cost concession.   Easy to understand and apply and helps reduce your TBs cost to close.  

Otherwise you are in good hands with @Account Closed

[Michael Smythe]

You'll need a lease, an option contract that will then trigger a purchase contract.

[Ben Russell]

I'm not sure what to do on this one. We listed it as a lease/option and got tons of interest. I reached out to two different lawyers that we use. One, was adamant that it was a bad idea because it would create an equitable interest for the tenant and if they defaulted, we would have to go through a judicial foreclosure, and then evict which could take 12+ months

The other lawyer, said it was no big deal and the amount we received was not enough money to establish interest in the property. Has anyone done these and had to evict and been faced with an equitable interest argument in court?

[Shelli Schilke]

Quote from @Account Closed:

Quote from @Ben Russell:

We just finished a flip that is listed on the MLS. We decided to also offer it as a Lease with a 3-year option to buy. Having never done one of these, can I get some feedback on how we structured the option and pose some questions:

Well, I've done a lot of these and this is my favored package:

I have had lineups each time I put a Lease Option to the public.

There needs to be two agreements, an Option Agreement and a Lease Agreement. For simplicity they both need to start the same day and end the same day. Each adult needs to be a signatory to the Agreements. The contracts and how they are written is extremely important. When I've been sued, I've won.

It needs to be handled and documented in Escrow with Title and include appropriate Disclosures.

I couldn't care less about their credit. Since they don't have to qualify using a bank, there is added value to them on the transaction. I sell for 10% above market value. No step up in following years. They pay 10% as a Non Refundable Option Fee. The money is not escrowed, no need to, it's non refundable. Option fee gets applied to the option amount when they exercise the option. I offer a two year lease option. 3 years is too long in my opinion but if you are simply looking for cash flow, 3 years is fine.

Since they are providing 10% down, I don't have them put down a security deposit. The non refundable option fee is plenty. 

Their monthly payment is 10% above what the place would rent for as a LTR. Since they don't have to qualify using normal criteria, there is added value to them on the monthly so there is an up charge. Taxes and insurance costs are "covered" in the rent. (People don't pay taxes and homeowners Insurance on properties they don't own.)

They can "refinance" anytime they can qualify for outside financing. The option fee counts as a down payment when talking to future lenders.

Monthly rent has NO credit going toward the purchase price/down payment. Rent credit is not used.

If you choose to allow this, make sure you keep accurate records and don't commingle funds.
B3-4.3-12, Rent Credit for Option to Purchase

https://selling-guide.fanniemae.com/Selling-Guide/Originatio...

They are responsible for repairs and maintenance. I don't have a property manager on them since I have 10% down, they take care of the place as though it's their own. I never hear complaints, or have toilets to unplug, snakes to remove or ants to kill.

I've put together a spreadsheet that shows how all of this works. If you'd like a copy just DM me. Click to

https://www.biggerpockets.com/users/mikeh695 & Tap the message icon in the upper right corner of your screen

@Account Closed - I scoured these forums for hours yesterday trying to find the answers you provided in your post. Thank you so much for breaking it down the way you did! It's everything I was looking for.