Steps in Lease Options

Selling real estate on lease options is a powerful technique enabling you to tap into a huge pool of people wanting to buy a home but for one reason or another but aren't quite able to make the purchase right now. Whether you're an investor or a homeowner, when it comes time to sell, you should always take a close look at selling real estate on lease options.

Step 1. Finding buyers for lease options. Few sellers give any thought to selling real estate on lease options until a buyer approaches them with the idea. You should consider this person but if you’re ready to go this route, look at other potential buyers/tenants by listing the lease option on craigslist, other local classifieds, and talking with a relator. This will dramatically increase your pool of perspective buyers to select from.

Step 2. Performing background checks. You should first whittle down the buyer pool by checking references and keeping those with a steady source of income on the short list. The short list is where you begin looking at the credit history of individuals. You'll find some that show a long history of not paying their debts. You want to avoid those people while preferring those that had a one time financial problem. It might even be as bad as a foreclosure. However, many foreclosures are now falling off of people's credit histories. What you want to avoid is a long term pattern of people not being financially responsible. Those with one or two credit blemishes will soon qualify for a mortgage and will be able to complete the purchase.

Step 3. Engage the services of a mortgage broker. This step is often skipped, but it shouldn't be. It's a good idea to contact a loan officer or mortgage broker to at least discuss the potential buyer's prospects for obtaining a mortgage at the end of the lease term. When selling real estate on lease options, the mortgage broker can realistically help you and the potential buyer determine when the buyer will qualify for a mortgage. This is an important consideration for determining the length of the option period. You may also want to put the buyer in contact with a credit counselor.

Step 4. Starting the paperwork. Begin negotiating and drafting the terms of the purchase option. Make the lease agreement and option agreements separate contracts to minimize the possibility that the lease can legally be construed as granting equity in the property. Seek out the services of a qualified real estate attorney having experience with lease options.

Provide the buyer with a disclosure statement. The disclosure statement tells the buyer about any deficiencies with the house that you are aware of. Almost every state requires full disclosure for every real estate sale. Although you are selling real estate on lease options, you should treat this as an outright sale from the beginning. Otherwise, there is a chance the buyer could back out later when you do have to give them the disclosure statement. Additionally, that could provide the buyer with the ability to demand return of the nonrefundable option fee.

It's also a good idea for the buyer to have a professional inspection of the house done at this time.

Agree on the purchase price of the home. Ideally, the agreed-upon price is slightly more than market value (especially for lease terms of 1 year or more) to compensate for future appreciation and the risk you are taking without an outright sale. You and/or the buyer may want to pay for an appraisal to validate the price. Banks and other lenders will only loan against the appraised value, regardless of the price that you agreed on with the buyer.

Step 5. Execute the lease option contract. Be sure to get the right insurance coverage. Since you will no longer be the owner-occupant of the house, you may need to update your homeowner’s insurance policy to a dwelling policy. Check with your insurance agent to determine what policy is necessary and what coverage you need. Your tenant should also be insured to cover his or her liability and, depending on your state, any gaps in your coverage that may result from the lease option.

Finally, you want to sell the house. You don't want to become a landlord. Make sure the contract clearly spells out who is responsible for repairs and maintenance of the house. Everything, except the most serious repairs, should be the responsibility of the buyer just as it would be if the purchase had already been completed.