Lease Option To Buy – What Exactly Does This Mean?

The term 'lease option to buy' might also be referred to as 'rent to own' or simply as 'lease option'. In its most basic definition a lease option to buy is when a consumer leases (or rents) a property for a certain period of time and at the end of that time the consumer has the option to buy the property.

Let's discuss who would consider a lease option to buy and how they actually work. To find out the advantages and disadvantages be sure to read "Lease With Option To Buy-Understanding the Pros and Cons".

WHO WOULD CONSIDER A LEASE OPTION TO BUY?

Although anyone buying a home might consider a lease option to buy, the reality is consumers with less than perfect credit who do not have enough money for the required down payment make up the vast majority of this niche market.

As you may already know, the days of purchasing a home with little or no money down with questionable or bad credit is a thing of the past. Banks have been hit hard by the collapse of the sub prime market and have over compensated in many ways. The bottom line is it's not nearly as easy obtaining a mortgage as it used to be.

The following might be someone who would consider a lease option to buy: has bad credit; not enough money to meet the bank's down payment requirements; filed bankruptcy in the last two years; went through a recent foreclosure; went through a recent short sale; does not make enough money to afford a property but might in a year or two.

Basically, anyone who does not qualify for a normal, every day mortgage would be a good candidate for a lease option to buy.

HOW DOES A LEASE OPTION TO BUY WORK?

A lease option to buy is actually pretty easy. Let's say I have a property for sale and you want to buy it. The only problem is you can't qualify for a mortgage today but should be able to qualify in two years.

I might suggest that you rent my place for two years with a security deposit of $3,000 and a rate of $2,000 per month; at the end of the two years you have the option of buying it for $250,000. If you agree to this idea then we take it a step further and add a few more small details. (Keep in mind, some sellers want a security deposit AND a separate down payment. It's all negotiable)

I'll suggest that out of the $2,000 per month rent I will apply $200 towards the purchase price. In other words, the lease portion will be $1,800 and the option to buy portion is $200. Also, I'll suggest that if you decide to buy then the $3,000 security deposit will also go towards the purchase price.

If you agree, in two years you will have paid down the purchase price by $7,800 ($200 a month for 24 months and the $3,000 security deposit) for a remaining balance of $242,200. By now you should be able to qualify for a mortgage and close in the next month or two.

Everything sounds pretty good, right? You get to rent, you get the option to buy if you want and it doesn't cost anything 'extra'. What do you have to lose? Plenty!

What if you decide not to purchase the property at the end of the two years? Easy. I get to keep the $200/month option money and the $3,000 security deposit.

Two questions usually come up at this point: Who pays what during the lease period and is the buyer allowed to make any changes to the property during that time?

My standard answer is, I don't know. The dollar amounts and the terms of the lease with option to buy are all negotiable between the two parties.

In summary, a lease option to buy is used primarily by those who are not able to obtain a bank mortgage. The security deposit and a portion of the monthly rent will lower the remaining balance should the buyer exercise the option to buy. If not, the seller keeps the money. The dollar amounts and terms of the lease option to buy are negotiated between the two parties.