Lease Purchase contract

Buying & Selling Real Estate
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Lease Purchase contract

Robert T.
Tampa, FL · Member since 2015 · 46 posts · 21 votes

Hi, 

I'm new to real estate investing and I just purchased my first single family home last month and I am ready to find a renter.  I live in NY, so I purchased an out of state property in FL.  

My property manager, who is also my real estate agent, suggested I do a Lease Purchase option instead of just renting it to a tenant.   As this is not what  I was originally expecting to do, and I am very new to this,  I would greatly appreciate somebody else's opinion if I should do this.   Below is how it was described to me by my property manager. 

The property has a current value of about 100k.   She would find  a person for a Lease Purchase contract that would pay 130k in 2 years.  That person would have to put down 10k as a deposit.  If they do not purchase it in 2 years(such as being due to not being able to get financing), they would lose the 10k deposit.  I'm told that less than 5% actually purchase it.  As the property manager is the person that found the person to do the "Lease Purchase" contract, the deposit would be split with her(5k to her, 5k to me). 

In the unlikely event the buyer is able to get financing in 2 years, then they would pay 130k as the contract says, which is 30k over what it is worth.  Even though I do not want to sell it, I'm willing  to do it due to the large profit I would make.

Does what I describe  above make sense to do?   Does anybody see any potential problems with doing this lease purchase method instead of just renting  it like I was planning?

Thanks

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Matthew Fields
Real Estate Agent · Springfield, MO · Member since 2015 · 27 posts · 7 votes
10y
I have done a decent amount of research on this and I don't think you are necessarily ripping them off. I don't think it's a good deal in the terms explained. In my market it would look like this, $100,000 3yr lease option $3,000 deposit, 10% over market value rent with overage applied to built in equity to assist in owner financing. I would continue to allow the tenant to pay the above market rent to continue build more equity towards future purchase, the total purchase price would never really be able to be so far over appraisal like in your scenario. In this scenario you win by, collecting the deposit and above market rent and the tenant treats the home better when the think of it as theirs. All pluses for you, and yes they may purchase the property in the future, but if you bought with equity you should still be ok.
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  • Matt Motil
    Rental Property Investor · Cleveland, OH · Member since 2015 · 1k+ posts · 880 votes
    10y

    Tenant/potential buyer figures out at some point that they (a) can't buy the house or (b) doesn't want to pay dramatically over market for it and then realizes that they will be out their deposit if they back out. At this point you have a pissed off tenant living in your property. Sounds like your real estate agent should remain your real estate agent and maybe stay as your property manager, but in no way would I cut them in on a deal where they are finding you a tenant that you're ultimately going to screw over. 

    I'd rent the place out like you had planned and be happy with a solid tenant that can afford to pay rent on time. If you really want to do a lease purchase option, then you should get an attorney involved to make sure it's drawn up correctly, and you should also screen the potential tenant/buyer to make sure they have a prayer of qualifying to buy down the road when the time comes. 

    Rule #1 in life in my opinion is don't be an A-hole. Setting people up for failure at your financial gain won't last long before you develop a crappy reputation and it will always come back around. Just my $0.02

    0Reply
  • Robert T.
    OP
    Tampa, FL · Member since 2015 · 46 posts · 21 votes
    10y

    Matt, Thanks.  Screwing over a person that is currently living in my property does concern me.    I'm starting to lean towards just renting it.

    0Reply
  • Matthew Fields
    Real Estate Agent · Springfield, MO · Member since 2015 · 27 posts · 7 votes
    10y
    I have done a decent amount of research on this and I don't think you are necessarily ripping them off. I don't think it's a good deal in the terms explained. In my market it would look like this, $100,000 3yr lease option $3,000 deposit, 10% over market value rent with overage applied to built in equity to assist in owner financing. I would continue to allow the tenant to pay the above market rent to continue build more equity towards future purchase, the total purchase price would never really be able to be so far over appraisal like in your scenario. In this scenario you win by, collecting the deposit and above market rent and the tenant treats the home better when the think of it as theirs. All pluses for you, and yes they may purchase the property in the future, but if you bought with equity you should still be ok.
    1Reply
  • Matt Motil
    Rental Property Investor · Cleveland, OH · Member since 2015 · 1k+ posts · 880 votes
    10y
    Originally posted by @Matthew Fields:

    I have done a decent amount of research on this and I don't think you are necessarily ripping them off. I don't think it's a good deal in the terms explained. In my market it would look like this, $100,000 3yr lease option $3,000 deposit, 10% over market value rent with overage applied to built in equity to assist in owner financing. I would continue to allow the tenant to pay the above market rent to continue build more equity towards future purchase, the total purchase price would never really be able to be so far over appraisal like in your scenario. In this scenario you win by, collecting the deposit and above market rent and the tenant treats the home better when the think of it as theirs. All pluses for you, and yes they may purchase the property in the future, but if you bought with equity you should still be ok.

     This is exactly how I've done it in the past on my properties. If the tenant doesn't want to buy or can't buy when the time comes, the impact isn't as dramatic, and so there isn't as hard of feelings. 

    The absolute worst case scenario is a disgruntled tenant out a ton of cash still living in your home. By the time you get them out they will have destroyed the place and gotten their money back out of you in the form of damage you now need to repair. 

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  • Matthew Fields
    Real Estate Agent · Springfield, MO · Member since 2015 · 27 posts · 7 votes
    10y
    So, I had a couple typos in my previous comment, I meant to say you aren't necessarily ripping them off, and also that the tenant grows their equity to assist in their financing to possibly purchase. So they are constantly growing their stake in the property. This helps them not to just give up and poop on your floor if they don't get approved for financing.
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  • Robert T.
    OP
    Tampa, FL · Member since 2015 · 46 posts · 21 votes
    10y

    Matthew, Thanks. Having the person pay above market rent I don't think was part of my property manager's plan. If the person does this, and they are not able to buy the property after 2/3 years, the amount they paid above rent is mine to keep, right?

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  • Matthew Fields
    Real Estate Agent · Springfield, MO · Member since 2015 · 27 posts · 7 votes
    10y
    Yes exactly. It gets grouped in with the deposit as non refundable equity.
    0Reply
  • Robert T.
    OP
    Tampa, FL · Member since 2015 · 46 posts · 21 votes
    10y

    The problem with having the person build equity by paying above market rent is that I don't actually want to sell it.   The 10k deposit(with very little chance of them actually buying it) my property manager suggested is the main draw to this strategy for me.   

    0Reply
  • Robert T.
    OP
    Tampa, FL · Member since 2015 · 46 posts · 21 votes
    10y

    Does this strategy have any conflicts with the  Dodd Frank/safe act that I should be worried about?

    0Reply
  • Matt Motil
    Rental Property Investor · Cleveland, OH · Member since 2015 · 1k+ posts · 880 votes
    10y

    Here's the part of her plan that irritates me: She's selecting the tenant/buyer for you with the intent that they will not exercise their purchase option, but she wants you to split the option purchase price with her because she found you the tenant. If anyone ever needed a definition of conflict of interest, there you have it. She's directly benefitting by finding you an unqualified tenant/buyer. There's no benefit in it for her if they buy your house at the end of the day. 

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  • Matt Motil
    Rental Property Investor · Cleveland, OH · Member since 2015 · 1k+ posts · 880 votes
    10y
    Originally posted by @Robert T.:

    Does this strategy have any conflicts with the  Dodd Frank/safe act that I should be worried about?

     I believe you can do up to 3 deals per year and be exempt from all the D-F/Safe Act regulations

    1Reply
  • Robert T.
    OP
    Tampa, FL · Member since 2015 · 46 posts · 21 votes
    10y

    I would say it benefits her if they buy the house because she is also my real estate agent.   However, I would prefer they not buy the house.

    I'm still leaning  towards just renting it now.  If I were to do it,  and the person buys the house, then I would be annoyed that I no longer own the house.  If I do it and the person does not buy the house, then I get the 5k deposit but I have an angry tenant that just lost 10k living in my house.

    0Reply
  • Matthew Fields
    Real Estate Agent · Springfield, MO · Member since 2015 · 27 posts · 7 votes
    10y
    Yea that's the down side then, but I would say after 36 monthly payments at maybe an extra $100-$150 each added with the deposit and amortization and appreciation factored in to the purchase price you should have made plenty of money to assist in buying a new place. If you bought it right you should already have 20% built in. You could easily have $25,000 cash out if they buy to pick up another quick. Maybe two, and that's IF they buy.
    0Reply
  • Matthew Fields
    Real Estate Agent · Springfield, MO · Member since 2015 · 27 posts · 7 votes
    10y
    Also, I know nothing of Dodd frank.
    0Reply
  • David Nolan
    Professional Property Investor · Brisbane, Queensland · Member since 2015 · 165 posts · 160 votes
    10y

    @Robert T. Let me see...You have a person who is giving you advice as to what to do with your property who wants to blatantly rip off some poor potentially uneducated would be home buyer for $10K and split it with you. If your supposed adviser, who also wants a fee for such advice, believes that the property is most unlikely to be worth $130,000.00 when the option is due and therefore the buyer will not buy the property then why, oh why would you even entertain such a dishonest deal?

    I accept that you may be new to property investing and you are looking to learn however, that should not absolve you from an intent to take advantage of someone with less knowledge and or who may feel they are in a desperate situation and need to enter into such a potentially poor deal. There are many ethical and honest ways for you to make a good living in property investing, as very many of the people whose advice you seek on this site have done and continue to do. Please do not become one of those people who give property investors a bad name and cause genuine people so much financial loss in some future date.

    So, if you want to do a deal that is ethical, legal and of value to all concerned then I suggest you do some research on this site around lease options and learn from those who do these types of deals professionally and know all the rules, including those in relation to crediting rent to a purchase and how Dodd Frank affects that. If this becomes your action then I wish you all the best. If not, then I hope you feel you can trust someone who is willing to take advantage of another human being so openly. I know I certainly wouldn't.

    1Reply
  • Robert T.
    OP
    Tampa, FL · Member since 2015 · 46 posts · 21 votes
    10y

    Thanks to everyone for your advise.  I've just emailed my property manager  to just do a standard renter agreement with no option to purchase.  

    0Reply
  • Curt Smith
    Rental Property Investor · Clarkston, GA · Member since 2012 · 2k+ posts · 1k+ votes
    10y

    @Matt MotilYou need to read the Dodd Frank threads or better yet the statute.  You are wrong in the context of seller financing.  Its seemingly pages and pages of BP posts on this topic.  In the context of a lease / option to s tenant buyer Dodd Frank is not involved at all if no rent credits or taking the option fee in installments.  So simply don't do either is my tactic.

    @Robert T.A solution I use is don't pick any price in the (separate) option agreement, say: price to be determined by an appraisal.

    What was lost in this thread is the fact that with a bank mortgage exit (vs seller finance exit) the banks appraisors have the last word. The buyer can agree to any price in the option agreement, but the bank's appraisor is really where price is determined ESPECIALLY if the loan is FHA. The reality of FHA is that there WILL be equity in the deal to protect the bank. If the borrower is not bringing it to the table as a large down payment, the appraiser (mysteriously) comes back with a low appraisal. Guess what? The seller has to drop the price or nix the deal.

    Just set price by you hiring an appraiser.  Keep the option period 3 yrs or less (a discussion behind this), no rent credits in the lease, keep rent at market rate.

    The biggest benefit to the landlord is selling at a fair price without an agent's fee and no "holding period" losses because it's rented 100% up to closing.  

    This is a win win deal when the numbers are all set fairly.  No need to debate the price issue, see above re the bank's appraiser.

    1Reply
  • Brian Gibbons
    Investor · Sherman Oaks, CA · Member since 2008 · 6k+ posts · 3k+ votes
    10y

    See Garn St Germain

    "A lender may not exercise its option pursuant to a due-on-sale clause upon--,

    (1) the creation of a lien or other encumbrance subordinate to the lender's security instrument which does not relate to a transfer of rights of occupancy in the property;

    (2) the creation of a purchase money security interest for household appliances;

    (3) a transfer by devise, descent, or operation of law on the death of a joint tenant or tenant by the entirety;

    (4) the granting of a leasehold interest of three years or less not containing an option to purchase;

    (5) a transfer to a relative resulting from the death of a borrower;

    (6) a transfer where the spouse or children of the borrower become an owner of the property;

    (7) a transfer resulting from a decree of a dissolution of marriage, legal separation agreement, or from an incidental property settlement agreement, by which the spouse of the borrower becomes an owner of the property;

    (8) a transfer into an inter vivos trust in which the borrower is and remains a beneficiary and which does not relate to a transfer of rights of occupancy in the property; or

    (9) any other transfer or disposition described in regulations prescribed by the Federal Home Loan Bank Board.

    0Reply
  • David Nolan
    Professional Property Investor · Brisbane, Queensland · Member since 2015 · 165 posts · 160 votes
    10y

    @Robert T.Sounds like a good decision. You could still do a lease option, just do it right. I am sure that you will discover in your career that dealing honestly and ethically will take you  along way. I do deals in the USA all the way from Australia because I get to deal with honest ethical professionals. People I can rely on to do the right thing by everyone concerned. If I chose the wrong people it would be a nightmare, instead it is no more difficult than dealing in my own backyard. Dealing with good people will make your life a whole lot easier than dealing with those whose morals and ethics are questionable, I know from cold hard experience. Good luck on your journey!

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