The lease/option strategy is a great way to purchase or sell a house.

The basic lease/option strategy involves two legal documents, a lease agreement and an option. A lease gives the tenant the right to possess the property. An option is the right to buy a property. It is a unilateral (“one–way”) agreement wherein the seller obligates himself to sell you the property, but the buyer is not obligated to buy. By combining a lease and an option, you create a lease-option.

Seller's Perspective

There are many benefits to the seller for a lease/option deal.  A landlord can offer an option to purchase to a tenant, either an existing one or advertise it as lease/option from the start.

1.  Quickly Get Rid of a Monthly Debt Obligation.  If you are a seller who want to sell quickly to relieve yourself of a monthly mortgage payment, but don't really want to be a long-term landlord, the lease/option can be a great solution for solving your problem quickly!

2.  Less Maintenance. Usually, a lease/option requires the tenant to be responsible for the day to day repairs and maintenance that the landlord would normally do.  Of course, a landlord cannot delegate ALL maintenance to the tenant, particularly where the repairs involve an issue of "habitability" under state law.

3.  More Cash Up Front. Typically a tenant on a lease pays first, last and security, the equivalent of three month's rent.  The security deposit is refundable, and in some states must be escrowed in a bank account.  With a lease/option, the tenant will generally pay a non-refundable "option" fee equal to 3-5% of the purchase price.  For a $200,000 house, that's $6k to $10k up front, non-refundable, and does not have to be escrowed.  This up-front fee is usually credited towards the purchase price if and when the tenant exercises his option to purchase.  If the tenant does not exercise the option, the money is forfeited.

4. Higher Sales Price.  When offering "creative" terms, a landlord/seller can charge a higher price than if he offered the property for cash.  The markup is generally relative to the market, but a 5 to 10% premium is not unheard of.  This can be particularly helpful if the seller is an investor who paid too much for the property or paid too much in repairs.  The markup in price will help him generate more profit in an otherwise break-even deal.  Further, there are tax benefits to holding a property for a year before selling (long-term capital gains treatment).

Buyer's Perspective

1.  Try Before You Buy. Renting a property can give a family to try out a house and a neighborhood without committing to buy.  Imagine buying a house with a 30-year mortgage and finding out your neighbor is Fred G. Sanford!

2.  Get Time to Fix Your Credit Problems.  A tenant/buyer with a recent foreclosure, bankruptcy, new business or new profession may need time to establish their qualification for a new loan.

3.  Gain Equity with Rent Credits and/or Improvements. A tenant/buyer can negotiate monthly rent credits for paying on time.  For example, for each payment of rent made on time, the tenant/buyer gets 20% of the payment credited against the purchase price when the option is exercised.  This will allow the tenant/buyer to get the landlord/seller to help him save up a down payment.  Also, the tenant/buyer can do improvement to the property, thus improving its value above the agreed upon purchase (option) price.

4.  Benefit from Appreciation. If you have a fixed option price, you can benefit from any market appreciation.  Further, if the market tanks, you are not locked into a 30-year mortgage; you simply forfeit your option fee, cut your losses, and walk away from the property after your lease is up.

There are numerous ways to structure a lease/option to benefit a landlord/seller, a tenant/buyer, or both parties.

For help in setting up a lease/option transaction, visit our website here.