How Does A Rent-To-Own Agreement Work?

Very few buyers are able to pay the entire purchase price for a house out of pocket. The most common way that buyers finance the purchase of real property is with a mortgage. The standard mortgage arrangement is that the buyer makes an initial down payment toward the purchase price and takes out a loan for the remaining balance. This balance is then paid off in chunks over a long stretch of time, after which the buyer owns the property free and clear. However, this option isn’t available to every prospective buyer. Some people in the market for a home have less than stellar credit and/or a dearth of cash-on-hand. These individuals will likely be unable to qualify for a traditional home loan. There is another avenue to homeownership available to these people, though: a rent-to-own agreement.

Rent-to-Own Defined

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A rent-to-own agreement allows the buyer to rent a home for a preset time period before exercising an option to purchase the property upon the expiration of the lease term. This allows the buyer to lock down the property now and prevent anyone else from getting it first, while also giving them additional time to improve their credit or raise the funds for a down payment.

The specific terms of each rent-to-own agreement vary due to differing laws among jurisdictions and the ability of the parties to the agreement to negotiate for particular terms. However, there are certain terms that are nearly universal in this type of arrangement and can be expected in the majority of agreements.

Option Money

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When entering into a rent-to-own agreement, the buyer pays the seller a one-time fee known as option money. This is essentially consideration for the buyer’s future option to purchase the property. The parties are free to negotiate over the option amount – there is no minimum or maximum amount required, within the bounds of fair dealing. Depending on how the agreement is worded, the buyer could be obligated to purchase the property upon the expiration of the lease, or may merely have the choice to do so or walk away. Only the latter is truly an “option.” It is crucial that you have your rent-to-own agreement reviewed by a real estate attorney when buying real estate, like those at Adam Leitman Bailey, P.C., before you sign.

Purchase Price and Rent

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Every rent-to-own agreement will clearly state what the purchase price of the property will be should the buyer choose to exercise the option, or will at least provide when and how that price will be determined. The parties are free to negotiate over the purchase price and whether it is set in advance or determined at the time the option is exercised.

The amount of rent owed by the buyer to the seller each month will be determined at the beginning of the lease term, too. Often, a portion of the monthly rent is applied directly to the purchase price of the property. If the buyer chooses to exercise the option, then they benefit from having some of the purchase price reduced. They don’t get this money back if they don’t exercise the option, though.

Conclusion

Renting to own can be a great way to get into your dream house immediately while you wait to save up the money for a down payment or repair your credit. However, there are important nuances and potential pitfalls that you need to be aware of before entering into any kind of agreement to rent-to-own. Speak with your lawyer and have them review the agreement before you make any decisions.

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