All About Rent-2-Own Homes
The truth about rent-2-own homes. In this article, I'll dive into the benefits and risks.
Rent to own. Sounds too good to be true right? There must be a trick? Firstly, while it is not as easy as simply paying rent and then magically owning your home at the end of the lease term, rent to own could be just what you are looking for. So, what is it and is it right for you? Other terms for rent to own are lease-option or lease-purchase. These are all meaning the same thing.
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How does rent to own work?
First thing you need to understand is that not every home for sale will be available as rent to own. If you are interested in the rent to own scheme, you need to find properties that are for sale by certain rent to own companies. Only then is it a path you can consider taking. The process is simple enough. You will rent a property for a specified period (from several months to years) before becoming the official owner.
Rent to own works very much in the way that it sounds. Dave Ramsey explains it well by explaining that rather than saving for a new home while you throw money at a rental (paying someone else’s mortgage), you can move into your new rent to own house straight away. Each contract will be slightly different, but generally a portion of your monthly rent check will go towards the down payment or home equity. And at the end of the contract, you will be able to purchase the home.
How much rent goes towards home ownership?
This is where the most misinformation comes from in rent to own deals. If a property would normally rent for $2000 a month, in a rent to own, this entire amount would not go towards paying off the home. Because the original owner (seller) still needs to make money. So, the rent charged could go up to $2500 per month with the additional $500 going towards the down payment. At the end of the contract period, however much has been paid toward the ownership would be put towards a down payment.
What are the risks with rent to own?
While rent to own sounds like a win-win situation, it is actually quite risky for the buyer. There are definitely risks to both parties, as is the case with any investment, however the buyer holds the bigger risk.
- Lack of security. The main issue with rent to own is that during the renting part of the contract, the seller still holds legal ownership of the property. Even though the buyer is paying towards owning the property, until the property changes legal ownership, the buyer has few rights. So, if the buyer were to default on their rent, no matter where in the contract they are, the owner can take back full ownership. The buyer will then essentially forfeit any of the money already spent. Source: Home Guides.
- Potential loss of investment. The main issue with rent to own is that the tenant (buyer) has the smallest amount of control with the investment. The lender is the third party in the agreement and has the most control. At the end of the rent agreement the buyer will seek financing to finalize the purchase. The lender decides what percentage of rent already paid can be put towards a down payment. So the extra financing needed to take ownership could be higher than anticipated. The lender could of course go the other way, in which case the seller would make a bigger loss.
What are the benefits for rent to own?
With such high risks to both parties, why then would anyone choose to go down the rent to own path? While it is not an ideal situation in many cases, there are times when a rent to own strategy is mutually beneficial. Trulia mentions that rent to own homes are not nearly as common as traditional sale listings because they happen under specific circumstances.
- When a property owner is struggling to sell, they can list it as a rental with an option to rent-to-own. This can create more interest and open the market to a wider array of buyers.
- Often rent to own will occur in a property that is already tenanted. The current tenant could express interest in purchasing their current rental property, and the owner could agree.
If a buyer is looking to purchase a property but does not have the down payment ready, they can propose a rent to own agreement. The purchase price must be set up front and the contract needs to be clear and agreed. These agreements are generally long-term, so both parties need to understand their role in the contract and understand what happens when the contract time ends (and the property is ready to change hands of ownership).
How long is a rent to own agreement?
There is no universally accepted length of time for a rent to own agreement. The rental term will be decided between the seller and the buyer. The longer the agreement, the more opportunity that the buyer has to save up for the down payment. And the more money will have already been paid from the rent checks. On the other hand, the longer the agreement, the more chance that something could go wrong (financial difficulties) which could mean the buyer could lose the property and forfeit all money paid up to that point. Typically rent to own agreements will last between one to three years.
Rent to own clearly has benefits and risks for both the buyer and the seller, so if you are either party, you must consider these when entering into an agreement. Keeping finances in check during the rental period is imperative for ensuring success and having the contract end in a clean and effective change of ownership. Because change of ownership is the entire point of rent to own and is simply a way to make the process more cost effective for both seller and buyer.
Charles is the founder of infoSpike.com. His real estate investing experience started in 2004 and he is currently focused on rental property projects. He enjoys learning about real estate investing, personal finance, and marketing. Read more about Charles here.