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Every real estate investor needs to start somewhere. However, the common sentiment is that the first property is always the hardest.
Fortunately, there is a method that can make it easier to buy your first property earlier than you may expect – rent-to-own agreements.
So, what is exactly is a rent-to-own agreement and how can it benefit new real estate investors? Before we dive into that, you need to understand how that may look from a financing standpoint. So, if you would like to see how rent-to-own agreements impact your mortgage, click the link below to book a free strategy call with us today.
What is Rent-to-Own Real Estate?
Rent-to-own is an agreement that you can make as a tenant to purchase a property that you are renting in the future, while renting it out for the time-being. These agreements can be made either with a landlord, property owner or rent-to-own company.
Under a rent-to-own agreement you and the property owner agree upon a sale price for the house and contract a set period for you to rent the property with the intention being for you to purchase the home at the end of that period. Typically, these agreements are made for a period between one to five years, with a portion of each month’s rent being set aside as credit towards the final purchase price once the period is over. As a result, your monthly rent may be higher than market rent in order to factor in the credit you are building.
During the contracted period, the property owner is not permitted to sell the property to anyone else, only gaining the option to sell the property to another party after your contract has lapsed without you making the purchase.
Lease-Option vs Lease-Purchase Agreements
There are two main types of rent-to-own contracts – a lease-option or a lease-purchase agreement.
With a lease-option contract, you rent the property for a pre-determined period. At the end of this period, you are given the exclusive option to buy the property but have no obligation to do so if you have changed your mind. These agreements may come with a higher rent cost to factor in the risk the property owner is facing that you may not buy the property at the end of the term.
A lease-purchase agreement is similar to a lease-option agreement, but at the end of the term you are obligated to buy the property you have been renting. These are incredibly risky and are not recommended because if you decide you no longer are interested in the property or cannot afford to make the purchase at the end of the term, you will still be required to make the purchase. This means you will run the risk of taking on an unmanageable amount of debt or wind up purchasing a property you did not wish to buy.
Determining The Terms of The Contract
When drafting a rent-to-own agreement there are a few terms that need to be agreed upon in the contract.
The first factor is the rent-to-own term. This is the amount of time you plan to rent the property for before the buying period. While these are usually between one to five years, the specific term will vary based on when the seller wants to let go of the property and when you as the buyer believe you will have enough saved to make the purchase.
After that, you need to agree upon the final purchase price of the home. The most common way to do this is to take the current value of the property and compare it to the current average rate of appreciation. That means if you are looking at a $500,000 home with an average increase of 3.5 per cent in property values each year, the seller may ask you to sign an agreement to purchase the house at a price of about $595,000 to account for rising property values during a five-year period.
Finally, it has to be determined whether you are getting a lease-option or lease-purchase clause in the agreement. Make sure to have a real estate lawyer look over the contract so you do not wind up with the obligation to buy the property if you do not know you will absolutely still want to make the purchase at the end of your term.
Discover Rent To Own With This Step By Step Guide
Stay Weary of Scammers and Bad-Faith Deals
Unfortunately, not everyone who offers a rent-to-own agreement on their property is acting in good faith. There are scammers out there who will deliberately set the price higher than they expect their tenant to be able to purchase at the end of the term in order to keep their property while collecting higher-than-average rent from that tenant for the entirety of their term.
As well, some sellers who want to get rid of a property will use vague legal terms to outline a lease-purchase agreement in hopes that potential buyers do not catch it and agree to buy the property no matter what.
This is why you should never enter these agreements alone and should always allow a lawyer to oversee your contract before you sign anything. These scammers do not reflect everyone who offers rent-to-own contracts, but they are still a risk you need to be aware of.
Financing Your Purchase of a Rent-to-Own Property
At the end of your rent-to-own term, you are going to need to secure a mortgage in order to make the purchase on the home. Fortunately for you, at LendCity, we are here to help. Our agents are ready to assist you every step of the way on the journey to help you make your purchase with no hassle. From helping you get pre-approved for a mortgage on the property, to helping you secure financing from one of our experienced lenders, our team is here for you.
In the meantime, you can also download our free home buyer’s toolkit to expand your skills and learn all about the world of real estate – including rent-to-own real estate. You can get your copy of the guide HERE. Alternatively, you can click the link below to book a free strategy call at the link below.