Rent-to-own lease agreements enable would-be-buyers to start their home-ownership journey by first renting a house, before eventually qualifying for a mortgage to purchase it outright. While this sounds like a dream come true, it’s worth understanding how they work, and whether a rent-to-own lease agreement is the right choice for you. Let’s take a closer look.
The Basics: What Is a Rent-To-Own Lease Agreement?
At first glance, a rent-to-own lease agreement is fairly self-explanatory. In a nutshell, it’s a type of lease that offers the tenant the chance to purchase the property that they’re renting after a pre-determined amount of time.
Typically, the tenant, or prospective buyer, will rent the property from the landlord for between 1 and 5 years. During this time, the goal is to improve their credit score and build up the required down payment to qualify for a mortgage on the home.
Due to how rent-to-own lease agreements work, tenants will typically have a greater chance of qualifying for a mortgage after the lease period is over, compared to if they had just taken out a standard rental agreement.
How Do Rent-To-Own Homes Work?
A rent-to-own lease agreement essentially acts as an enforced savings scheme. Each month, a portion of the rent will be put aside to build up a down payment.
Additionally, tenants will typically be required to pay an upfront fee when they take on the lease. This generally amounts to between 1% and 5% of the purchase price of the home in question. When the time to purchase comes, this money will usually be taken off the sale price or added to the down payment.
Two Types of Contracts
If you’re planning to take out a rent-to-own lease, it’s worth knowing that there are two main types of contracts that you’re likely to come across.
- Lease-purchase contract: usually preferred by sellers, this contract locks you into the deal from the get-go. At the end of the lease period, you’re obliged to buy the house and will be required to pay hefty penalties if you’re unable to.
- Option-to-purchase contract: this second option is a lot more flexible. At the end of the lease period, you’ll be able to choose whether you want to go ahead with the purchase or not.
Things To Do Before You Sign on the Dotted Line
Compared to a regular rental, tenants who are taking on a rent-to-own lease would benefit from doing their due diligence before signing the lease agreement.
- Have the home appraised: by taking out an appraisal, you’ll have a better chance of agreeing to a fair purchase price. The future purchase price is typically determined when the lease is signed, so it’s worth knowing what the true value is.
- Take out an inspection: a professional home inspection can uncover a variety of red flags and reveal whether the property is in need of major, and expensive, repairs.
- Carry out a title search: it’s good to know that the home you may eventually purchase is clear of liens and is actually owned by the person selling it.
It’s also well worth working with a real estate professional as rent-to-own lease agreements tend to be far more complicated than regular rentals.
Benefits of a Rent-To-Own Lease Agreement
1. Try Before You Buy
With an option-to-purchase contract, you can see what life is like in a certain house or neighborhood before deciding if you want to commit to it or not. It takes away a lot of the uncertainty associated with buying property and enables you to make an informed choice. Since you would have rented the place first, you’ll know if you get on with your neighbors, whether the location is a good fit for you and your family, and if the house itself is a place you can call home.
2. It Forces You to Save
Saving for a down payment is never easy, but with a rent-to-own lease, you don’t really have a choice. Every month, part of your rent is put into a savings account to build up your down payment.
3. Offers Time To Qualify for a Mortgage
If your credit score isn’t quite where you’d like it to be, or you haven’t spent long enough in one job, or you’re being held back by any of the other criteria that can see your mortgage application denied, a rent-to-own lease gives you time to fix things. During the lease period, you can work on improving your credit score and building up all the proof you need to show you qualify for a mortgage.
Disadvantages of a Rent-To-Own Lease Agreement
1. Usually Higher Rent
Compared to regular rentals, there’s a good chance you’ll pay more than the market rate in order to put cash aside for your down payment.
2. Potential Losses
If you decide not to purchase the house at the end of your lease, there’s a good chance you’ll lose any money you put up front. Not to mention the extra you’ve paid in rent during your lease.
It’s not just about deciding not to buy either. If you violate your lease terms, you may find yourself kicked out of the rental without any hope of seeing your money again.
3. It Takes Longer
Having appraisals and inspections carried out will inevitably prolong the process, meaning it’ll typically take longer before you can move into a rent-to-buy home.
Finding a Rent-To-Own Lease Agreement
Rent-to-own lease agreements can be difficult to find, although many multiple listing services will enable you to filter them out. However, if you’re struggling to find one, you might be able to convince a landlord or seller to give it a go. For example, if a house has been on the market for a while, you could approach the seller and see if they’re open to the idea, rather than having their home languish on the market.
Is Rent-To-Own the Right Move for You?
If you plan to purchase a home but you’re not quite able to right now, rent-to-own can be an excellent solution. It’s particularly useful if you’re not familiar with the area and want to try things out before committing. Just be sure to seek out option-to-purchase agreements so you’re not locked into the sale.
