With buyers rare and funding tight, some home sellers are providing rent-to-buy alternatives to prospective buyers.
These prices, also called rent-to-own and lease-option, usually require buyers to cover more rents each month and upfront fees of about 5 percent of the purchase price. The normal rent then goes in owner’s pocket (presumably to cover the mortgage), but the extra payments are used to buy down the cost of the home.
“Lease option agreements, if properly secured, by and large are an effective means of allowing people to buy that are having difficulty arranging financing or coming up with down payments,” said Lawrence Jacobson, a real estate attorney in Los Angeles.
Since the contract is typically composed to close in 12 to 36 months, it gives buyers the opportunity to experience homes and areas without needing to make key commitments.
But the biggest reasons why buyers opt for rent-to-buy deals would be to develop down payments and to improve their credit profiles so getting a mortgage is simpler.
By way of instance, if they buy a $200,000 home, paying $5,000 upfront and a rent premium of $400 per month in addition to their $1,000 market rent, they will have $9,800 saved after one year and $19,400 after three.
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Sales were slow because buyers were having problems arranging financing, according to a sales manager.
“What we were finding from clients was that banks were making it more challenging to buy,” he said. The creditors were asking borrowers to put up 30 percent of their purchase price to acquire a mortgage as opposed to the traditional 20%.
However, most rent-to-buy offers are from individual sellers, often those who have bought new homes, can’t sell their old ones and will need to offset some of their mortgage expenses.
A Louisiana homemaker, tried to sell a home in Mandeville, La., for several months without success.
“We had not thought about it .”
She consulted a lawyer and made a deal this past March. It requires a sale price of $217,000 for the four-bedroom two-and-a-half bath home. The buyer put $3,000 down and pays $1,400 per month, $400 of that accumulates toward the selling price.
Under terms in their contract, should they choose to walk away, they lose both the $3,000 deposit and the $400 each month they cover over regular market rents.
But there are downsides to these deals. You will need a good contract and a wholesome sense of”buyer besmeared.”
Losing your investment: For starters, there is very little protection for buyers who fall behind in payments.
Can’t get a loan: in the event that you still can’t arrange financing at the end of the rental period, you might need to forfeit all the additional money you’ve invested. The terms for that situation would have to be spelled out in the contract. In buyers’ markets, you might have the leverage to have a contingency plan specifying any upfront fees and additional rent be returned if you do not qualify for financing.
Falling home prices: Buyers might be reluctant to lock into asset cost a year beforehand considering how much home values are diving. If the comparable are more attractive when it is time for your deal to close, you may occasionally renegotiate, but that is in the seller’s discretion. If renegotiating is impossible, then you’ve got to determine whether it is more economical to walk away or go through with the deal.
Foreclosure scams: Some renters are burnt by performing lease-option deals with owners that are going through foreclosures. After months of accepting the inflated rent payments although they are in foreclosure, the owners finally have the home repossessed by the lender and the renters are served with eviction notices and are outside their investments.
There also have been cases of foreclosure-prevention scams where fraudsters take title to homes and do lease-option deals with unsuspecting renters. Rather than applying the first deposit and the excess rent money to the down payments, the scam artists only pocket evaporate and everything. Because the renters don’t get a title to the property until they shut the bank , they are again out their own investments.
Walk aways: Pitfalls exist for vendors also. Renters may choose not to exercise their options if costs fall. That may leave sellers with large paper losses by the close of the lease compared with when they’d sold the home when they initially planned. They’re also stuck taking the costs of their home until they find other buyers or renters.
Most of all, however, buyers have to be careful about entering into a deal that is unaffordable. The payment can appear manageable once you’re just taking a look at the monthly”rent” payment.
The mortgage payment on a $200,000 home after paying $20,000 down, comes to over $1,000 per month in the current very low rates of interest, which are only available to borrowers with the best credit.
Over the last couple of weeks, prices have been creeping up again, so there is no guarantee they’ll be as low once the purchase is completed. Additionally, credit-damaged buyers can expect to pay a couple of percentage points higher at a minimum.
Add in private mortgage insurance, real estate taxes, all of the utility and regular maintenance costs, and it may push the monthly payment beyond $2,000 – and worth.