Rent / LO to Short Sale Owner. Is this legal? What to consider?

Question

Hi BP, I am currently looking at a prospective investment property that is a short sale. When I asked the listing agent about the property, he said that the family who currently owns and lives in the house want to stay in the house. Without knowing the legality of it, I asked the listing agent whether the current owners would consider a rent to own (a.k.a. lease option) agreement? My thought was they could rent the property for 2-3 years, restore their credit, and then purchase the property back from me. Is this legal? What should I consider before deciding whether to make an offer on this property?

Ron S. · Answer

Google "Augustin Simon short sale fraud" and you'll see why its not a good idea to engage in a short sale where the previous owner stays. I'm not saying that is your situation but, it easily and quickly could be. The only way it's gonna work is if one of you lies, otherwise the lender will not allow it. That innocent lie where no one gets hurt and there are no victims results in someone going to prison for the lie.Just my two cents.

Chris Seveney · Answer

I am not an attorney but your asking yourself for trouble in this situation. If they are short selling the property they will not be able to get conventional financing for years. Getting it within 3 years is not going to happen and I just do not see this situation having a happy ending which can lead to legal issues and $ that you didn't expect to spend having to spend.

William Hochstedler · Answer

It's interesting that you say it's listed. When we were doing this, it was exclusively when we were working with distressed borrowers directly. That we could offer a lease back was very attractive to some borrowers who were convinced that they needed to stay in the home. Because of this, they worked with us rather than our competitors to help them negotiate with the bank.At the end of the day, either during the negotiation process or not too long after we closed, most sellers realized that the property that they thought they needed to stay in, at fair market value, was perhaps not the best fit for their new rebuilding situation and moved on. It was either the realization that they were only tenants, that they no longer had the equity they built, staying in the home was not as important to their kids as they thought, they were still suffering from their original hardship more than they thought, and so on. We never had to evict, but we spent a lot of time counseling. Not at all turnkey.During this period, we crossed paths with a few other outfits soliciting these borrowers that were highly predatory and had slicker sales pitches that promised the sun and the stars and the moon.I imagine that this is why banks now prohibit this practice.Sounds like it could be a good deal, but, in the end, you're probably better off with a new buyer/tenant anyway.

Harry Metzinger · Answer

Thanks for your insights @William HochstedlerIn this case, I was considering this possibility because...1) Rehab is mostly cosmetic - $10K-$15K2) My offer would enable me to buy the property w/ $50K+ instant equity (after factoring in rehab)3) Rental cash flow would be approx. $400/mo. (before maintenance/repairs)4) The monthly rent would be less than 25% of the couple's current gross income (according to the listing agent)5) The listing agent believes that the current owner would be receptive to a lease-to-own to buy back the property in 2-3 years. In such an agreement, I envision the current owner/future tenant would pay $2,000 upfront and $200/mo. to be applied to down payment in 2-3 years. These monies would be forfeited if owner could not obtain a mortgage within 3 years.6) Between the $2,000 upfront lease option fee and a $3,000 rent security deposit, I would have $5,000 to go toward eviction in a worst case scenario.But these are all moot points if banks are prohibiting this.

William Hochstedler · Answer

@Harry MetzingerAs the article says, most, if not all, banks are prohibiting this in the affidavits and closing docs.We used to do this with some success, but banks are no longer offering the deep discounts that we saw a decade ago that make this arrangement make sense. In addition you have a high credit risk tenant and usually a physically distressed property. So it's not a great turnkey situation either.Basically, even if it weren't prohibited by the banks, in real life, this arrangement just doesn't provide the best exit any more. There are better tenants, better buyers, and the margins are too thin.

Harry Metzinger · Answer

Just read this... https://www.biggerpockets.com/renewsblog/2013/06/27/lease-back-short-sale/I guess that answers my question. If there's anything not covered in this article (and the comments that followed), please feel free to chime in here. Thanks.