Exploring the Lease/Option
Recently a friend called with an interesting predicament. Her landlord was raising the rent on a home she had lived in for nearly 10 years, and was planning to sell it once the market allowed her price. The friend obviously enjoyed the home, didn't want to move and had expressed interest in one day buying the home but wasn't ready to at the moment. She was now faced with a rental increase and the possibility of having to relocate in just a few short years once the home sold.
An easy solution to this scenario and a possible win-win for both sides seemed clear. Why not try a lease option?
What is a lease option you ask? Let me explain.
A lease option works like any other residential lease with one key exception: At the end of the agreed to leasing period the lessee has the irrevocable option to purchase the home subject to the pre-agreed to terms outlined in the purchase agreement.
The option to purchase does come with a price, which can be an upfront cost (or deposit) and/ or a premium in rental payments often with an agreed to sum being credited back to the lessee once they decide to become the buyer.
How can this be a win-win?
In the landlord's case, the home continues to generate income and in an upward moving market appreciate in value. The renter (tenant) has expressed an interest in one day owning the property themselves and most likely will treat it with all of the care and appreciation a homeowner does. The landlord is often paid a premium rent. Say the home typically rents for $2200/ mo. A serious future buyer will often times pay over the rental market value with an agreement that should they purchase, the premium paid would be credited toward the purchase price thru escrow. Should the tenant decide not to purchase, the landlord/seller would simply keep the premium rental payments and any lump sum offered at the time for the lease option. The landlord then could either keep the home, or sell the home as they choose.
For the lessee/buyer a lease/option acts a sort of a "forced savings plan" toward the purchase of a home while also buying time to qualify for an actual home loan. Also, it can be a sort of "test period" to see if the home and neighborhood truly is a match made in heaven worth diving into.
You see, a lease option could be a very good thing in some cases, but there can be some major pitfalls.
Consider the landlord/seller who agrees to an option at a time when market values are going up at an explosive rate. Having not foreseen this kind of property appreciation, the landlord/seller has contracted to sell a property at a fixed price a year or two prior at a price that is now much below market value. Had the lease option not existed the landlord/seller would be free to put the home on the open market and get a much nicer return. The buyer in this case, should he choose to exercise the option to buy has now landed into some very favorable circumstances!
Now consider the lessee/potential buyer who has negotiated a lease option during a bubble. The bubble pops right before the option period begins. Not wanting to pay a higher price on a property now worth significantly less than anticipated the lessee decides not to purchase the property. In this case the lessee's losses are limited only to the option monies paid including a deposit and rental premium. The buyer could walk away with only minimal loss.
As with any investment, the lease/option isn't without risks. Both landlords and tenants should carefully consider the potential benefits against the risks and in the end decide for themselves if an option to buy is worth it.
I hope this helped to shed some light on a somewhat lost practice in this real estate market.
If you have any questions feel free to call or text me.
530.628.SOLD
Until next time,
Jennifer
An easy solution to this scenario and a possible win-win for both sides seemed clear. Why not try a lease option?
What is a lease option you ask? Let me explain.
A lease option works like any other residential lease with one key exception: At the end of the agreed to leasing period the lessee has the irrevocable option to purchase the home subject to the pre-agreed to terms outlined in the purchase agreement.The option to purchase does come with a price, which can be an upfront cost (or deposit) and/ or a premium in rental payments often with an agreed to sum being credited back to the lessee once they decide to become the buyer.
How can this be a win-win?
In the landlord's case, the home continues to generate income and in an upward moving market appreciate in value. The renter (tenant) has expressed an interest in one day owning the property themselves and most likely will treat it with all of the care and appreciation a homeowner does. The landlord is often paid a premium rent. Say the home typically rents for $2200/ mo. A serious future buyer will often times pay over the rental market value with an agreement that should they purchase, the premium paid would be credited toward the purchase price thru escrow. Should the tenant decide not to purchase, the landlord/seller would simply keep the premium rental payments and any lump sum offered at the time for the lease option. The landlord then could either keep the home, or sell the home as they choose.
You see, a lease option could be a very good thing in some cases, but there can be some major pitfalls.
Consider the landlord/seller who agrees to an option at a time when market values are going up at an explosive rate. Having not foreseen this kind of property appreciation, the landlord/seller has contracted to sell a property at a fixed price a year or two prior at a price that is now much below market value. Had the lease option not existed the landlord/seller would be free to put the home on the open market and get a much nicer return. The buyer in this case, should he choose to exercise the option to buy has now landed into some very favorable circumstances!
Now consider the lessee/potential buyer who has negotiated a lease option during a bubble. The bubble pops right before the option period begins. Not wanting to pay a higher price on a property now worth significantly less than anticipated the lessee decides not to purchase the property. In this case the lessee's losses are limited only to the option monies paid including a deposit and rental premium. The buyer could walk away with only minimal loss.
As with any investment, the lease/option isn't without risks. Both landlords and tenants should carefully consider the potential benefits against the risks and in the end decide for themselves if an option to buy is worth it.
I hope this helped to shed some light on a somewhat lost practice in this real estate market.
If you have any questions feel free to call or text me.
530.628.SOLD
Until next time,
Jennifer
Great information!
ReplyDeleteThanks. This topic has come up a lot recently so I thought I'd share.
ReplyDeleteThis is indeed informative. I had no idea about this path to homeownership! Are we in a bubble?
ReplyDeleteSome would say Sacramento is in a housing bubble. I have yet to see it in my local market. In fact I see the market leveling out and gaining value steadily for the next few years. The biggest problem we face is that millenials aren't buying as fast as we would like to see. The problem is lack of preparedness, credit and education about the home buying proccess.
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