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<\/a>The reality of rent-to-own<\/h2>\n
When looking into rent-to-own contracts, the first thing you might notice is that a \u201cstandard\u201d rent-to-own contract doesn\u2019t exist. The rent-to-own process varies by state, and these contracts are usually written by legal advisors working with the buyers and homeowners.<\/p>\n
In general, a rent-to-own contract usually covers a time period of between 12 and 24 months \u2014 this is the time that you will rent the home before actually buying it. The rent-to-buyers will usually pay an \u201coption fee\u201d when they move in, which is typically 1% to 7% of the purchase price. This fee gives you the first \u201coption\u201d to purchase the house; it is typically non-refundable and is a sign of good will that the tenant is seriously interested in buying the property at the end of the contract.<\/p>\n
When the time comes to buy, the option fee is usually applied to the down payment. If the buyer decides not to buy the house, then the seller keeps the option fee.<\/p>\n
As a potential buyer, you will usually pay market-rate rent plus<\/i> some agreed-upon additional funds each month that will also go toward your down payment. This additional monthly payment is usually refundable if the buyer backs out, although the rent portion of that fee is not.<\/p>\n
The purchase price of the home is usually set in the rent-to-own contract when you move in, not at the time you buy the home, so you typically can\u2019t negotiate the sales price after you have rented for the term of your contract.<\/p>\n
On top of all this, unlike a more traditional landlord-tenant scenario, the buyer is usually responsible for maintenance to the home prior to the purchase.<\/p>\n Let\u2019s discuss some more specific reasons why renting to own can be a bad idea<\/a> for buyers and what the alternatives might be.<\/p>\n All rent-to-own contracts are different depending on the specific situation; some contracts are \u201clease purchase\u201d rather than \u201clease option\u201d agreements. A lease purchase agreement means the buyer is obligated<\/i> to purchase the house instead of reserving the first option to buy it.<\/p>\n Even if you are confident that this is the home for you, and that you should have the money to buy it at the end of the contract, there are always events that could change your mind. What if you get your dream job (and it\u2019s located across the country), or what if you or a member of your family has a health emergency and you have to move? Heck \u2014 what if there is a global pandemic and your financial circumstances change!<\/p>\n If you\u2019re totally sold on the idea of rent-to-own, don\u2019t consider lease purchase agreements and insist on a lease option agreement instead \u2014 because if the past few years have taught us anything, it\u2019s that you never really know what will happen in a year or two.<\/p>\n Rent-to-own contracts will usually stipulate how much you\u2019re going to pay to buy the house at the beginning of your contract, so the buyer is effectively locked into that purchase price. The buyer and seller will agree on a price at the start of the contract based on what the market is doing then, and they might not get it right!<\/p>\n The price documented in the contract could be much higher than the home\u2019s market value at the time of purchase, which could be a problem when it\u2019s time for a real estate appraiser to come into the picture \u2014 a bank won\u2019t loan more<\/i> money than a house is worth.<\/p>\n Before signing a rent-to-own contract, talk to a market expert (like a real estate agent) to get their opinion about how the market is growing, or shrinking, to land on a price that you think is fair.<\/p>\n Let\u2019s be honest \u2014 there is usually a reason why rent-to-own sounds like an appealing idea, and that is typically because you don\u2019t have your ducks entirely in a row to buy a home today. You might need a higher credit score to get a mortgage, or save a bit more for a down payment.<\/p>\n Renting-to-own isn\u2019t a get-out-of-applying-for-a-mortgage-free card \u2014 you\u2019ll need to secure financing later, when you do<\/i> buy the house, at the end of the contract. This means that you have a fixed amount of time to get your finances in shape if they need a little TLC, and there isn\u2019t any guarantee that you\u2019ll be approved for a mortgage when the time comes to buy.<\/p>\n Instead of getting yourself into a situation that could be financially detrimental, be vigilant about improving your credit score and saving the money you\u2019ll need to buy a home, and wait for the right time. There is no pressure to buy a home immediately (no matter what your dad might say!).<\/p>\n Don\u2019t forget: there\u2019s no rent-to-own without \u201crent.\u201d Most of what you will be paying every month is just that, rent<\/i>. The additional amount agreed upon between the buyer and seller in the contract will go toward your down payment \u2014 but remember, you are still paying monthly market-rate rent to the seller until you buy, and that money will not go toward your down payment, and won\u2019t be refundable if you back out of the deal.<\/p>\n If you are already struggling financially, paying more than market value in rent every month might not be the best fiscal move. So if you are getting into a rent-to-own agreement, make sure that you\u2019re not spending more than you can afford, and get an opinion from a financial advisor on the amount you are paying in rent and what\u2019s going toward your down payment vis-a-vis your income and savings.<\/p>\n The option fee that you pay at the beginning of your contract and the extra money you\u2019re spending on rent every month will put a dent in your down payment \u2014 but it\u2019s unlikely to get you a large down payment.<\/p>\n Think of it this way: If you are in a rent-to-own contract for one year, and the house you are buying will cost $200,000, the option fee will be 1% of that purchase price ($2,000). Then, if you are paying $500 in additional rent each month, by the end of the year you\u2019ll have paid an additional $6,000, for a grand total of $8,000 toward your down payment.<\/p>\n That\u2019s 4% of the home\u2019s total purchase price \u2014 not bad by any means, but nowhere close to the 20% you\u2019ll need to plunk down on a conventional loan if you want to avoid private mortgage insurance.<\/p>\n You\u2019ll have to cut corners elsewhere and make sure you\u2019re saving up as much as you can to get the mortgage that you want when it comes time to buy. If you are turning to rent-to-own because you are low on funds for your down payment, some viable alternatives might include down payment assistance (grants and loans), asking friends and family for help (double check loan gifting guidelines), or see if you can qualify for a USDA or VA loan (0% down) right now instead of waiting.<\/p>\n Remember, there are three payments that you will make toward your home during your rent-to-own contract: the option fee (non-refundable), monthly market-rate rent (non-refundable), and the additional money that you pay per month, which goes toward your down payment (usually<\/i> refundable).<\/p>\n That said: Beware of additional fees! The seller might stipulate in the contract that they are charging an additional \u201cconvenience fee\u201d on top of all the rest for allowing you to rent, and then purchase the home at a later date. The seller has the right to keep your option fee, your monthly rent, and any additional convenience fees \u2014 this could mean money you\u2019re spending that isn\u2019t going toward your down payment; you\u2019ll never see it again. Make sure that you\u2019re clear on how much you\u2019re going to get back, the potential situations under which the seller could keep all<\/i> your money, and then determine whether it\u2019s worth it to you.<\/p>\n If for whatever reason (ahem, a global pandemic!) you decide to back out of the deal, you are almost certain to lose your option fee \u2014 and you might even lose the additional money you\u2019re putting toward the down payment, depending on what is written in your contract.<\/p>\n Pretty certain that rent-to-own will be the best solution for you? Look into programs like Divvy<\/a>, which have a rent-to-own mentality but do<\/i> give you your money back if you decide to walk away. In many cases, it will make most financial sense for you to wait, save, repair your credit, and buy a house when you and your bank account feel ready.<\/p>\n Many rent-to-own contracts stipulate that the renter will handle any repairs to the home from the time you move in. This could include anything from fixing a leaky sink to installing a new roof.<\/p>\n If you\u2019re already stretching to make your rent and additional payments, will you realistically have the funds for maintenance and repairs? Instead, before you sign your contract, talk to the seller about adding a stipulation that you will split costs, or make sure you can really afford to repair and maintain the house before you actually buy it.<\/p>\n Lenchek says: \u201cYou need to determine who is responsible for the major maintenance of this house versus the minor maintenance of this house. It has to be specifically agreed upon in the contract, or there will be big arguments later.\u201d<\/p>\n For a glass half full scenario: if you (the buyer) are responsible for the maintenance of the house, then you have complete control over the quality of the repairs and which contractors you can hire. If the house you are planning to buy does need a large repair, like a new roof, it could give peace of mind to the buyer to oversee that construction. That is of course, if you have the savings to make it happen.<\/p>\n We\u2019ve said it before and we\u2019ll say it again: You just can\u2019t know for certain what will happen in a year or two. In 2021, mortgage rates are historically low, but in a rent-to-own situation, there is no guarantee what your mortgage rate will be when you apply for one when you\u2019re ready to buy \u2014 and when mortgage interest rates rise, your purchasing power decreases proportionally.<\/p>\n See if you can get financing with today’s rates to buy a home. If you have a good amount of money saved, it might be easier than you think to buy a home now instead of waiting in a rent-to-buy contract, and you might qualify for low down payment programs, especially if you are a first-time buyer!<\/p>\n Many rent-to-own contracts stipulate that if the buyer is late on their monthly payments, even once, they no longer have the option to purchase the home, lose their option fee, and potentially also lose the extra rent they\u2019ve been paying.<\/p>\n Before signing your contract, you need to make sure you\u2019re clear on what happens if you are late on one or more rent payments, and exactly when the rent is due every month. Be sure to also note any reasons for eviction listed on your contract.<\/p>\n Lenchek says: \u201cWhat we have found is that there are a lot of sellers out here in the marketplace who get that non-refundable deposit, and then turn around and look for excuses to evict the buyer from the house. That\u2019s the biggest red flag [in the rent-to-own field] \u2014 the sellers of the home are looking for the smallest excuse, the smallest infraction against the lease to use against the buyer to evict them from the house, pocket that substantial part of the down payment and then put the house back on the market to be sold, or, rent it out again under the same terms.\u201d<\/p>\n Before you sign anything, make sure that the lease isn\u2019t just geared to meet the needs of the seller, and that it is fair to you as a renter as well.<\/p>\n A truly horrific rent-to-own scenario is if you are making all your monthly payments on time, but the seller isn\u2019t.<\/p>\n Rent-to-own deals are usually between two private, individual households, and you don\u2019t necessarily have a clear picture into the seller\u2019s finances when you sign the contract. Ideally, they are taking your rent payments and paying their own mortgage with it \u2026 but you have little or no guarantee that they will.<\/p>\n Because the house isn\u2019t yours until you actually buy it, if the seller stops making mortgage payments on the house, the bank can foreclose \u2014 no matter what kind of deal you made. In this situation, even though the seller would owe you the option fee and other additional payments, it could be very difficult to get your invested money back without going to court and paying legal fees.<\/p>\n\n
What we have found is that there are a lot of sellers out here in the marketplace who get that non-refundable deposit, and then turn around and look for excuses to evict the buyer from the house. That\u2019s the biggest red flag [in the rent-to-own field] \u2014 the sellers of the home are looking for the smallest excuse, the smallest infraction against the lease to use against the buyer to evict them from the house, pocket that substantial part of the down payment and then put the house back on the market to be sold, or, rent it out again under the same terms.<\/q>\n
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So: Why is rent-to-own bad for buyers?<\/h2>\n
1. Lease purchase vs lease option<\/h3>\n
2. The purchase price might be inflated when the time comes to buy<\/h3>\n
3. You\u2019ll still need to repair your credit and accrue some savings<\/h3>\n
4. You\u2019re paying more than market value in rent<\/h3>\n
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<\/a>5. You\u2019ll still need to save up for the down payment<\/h3>\n
6. You probably won\u2019t get all<\/i> your extra investment back<\/h3>\n
7. If you decide not to buy the house, you\u2019ll lose money<\/h3>\n
8. You may be on the hook for repairs<\/h3>\n
9. When mortgage rates are low, waiting can be costly<\/h3>\n
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<\/a>10. If you\u2019re late with one payment, the whole deal could be over<\/h3>\n
11. If the homeowner stops making their<\/i> payments, you\u2019ll lose the house<\/h3>\n
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