Rent to Own Guide for Landlords
Renting a unit isn’t always a straightforward process. Landlords must sometimes resort to creative solutions to get their units sold.
If you need to sell your rental unit and haven’t had much luck, you might look into rent-to-own agreements.
Rent-to-own agreements offer landlords the opportunity to sell the unit directly to a tenant they have already been renting to.
Maintaining rental income while also offering the option to purchase the unit is a great way to reduce revenue loss and increase the chances that the unit will be sold.
While rent-to-own agreements look good on paper, the question is, are they a viable option for a landlord looking to sell?
This guide provides landlords with an introduction to rent-to-own agreements. Once you’ve got the basics down, consult a real estate attorney before moving forward!
Let’s get started.
What Does Rent-to-Own Mean?
Rent-to-own is a rental agreement that provides renters with the option to purchase their rental unit once the lease agreement term has ended.
The key here is “option.” In a typical rent-to-own agreement, the tenant will have the option to purchase the unit, but the tenant doesn’t have to buy the unit.
Rent-to-own agreements are most commonly offered in single-family houses in cool markets where it’s challenging for a landlord to sell a home in a reasonable time frame.
Who are Rent-to-Own Agreements for?
Rent-to-own agreements are for landlords who wish to sell their rental unit shortly.
There are several reasons why a landlord may want to sell their unit. A landlord may want to liquidate their assets by turning their unit investment into sales revenue.
Landlords who plan on relocating too far away to actively manage the unit and would prefer not to hire a property manager may offer rent-to-own agreements as a way to sell the unit once they move.
Finally, a landlord who has had difficulties selling their unit traditionally may choose to offer current or future tenants a rent-to-own option, as a means of selling.
On the other hand, rent-to-own agreements are an option for renters who are interested in buying a unit, but not quite ready to purchase one.
A renter may need to save up for a down payment or may prefer to experience life in the unit before fully committing to the purchase.
Renters may also want to trial homeownership without the responsibility of homeownership and opt for a rent-to-own agreement.
Overall, there are many scenarios in which a rent-to-own agreement is beneficial for both landlords and tenants. However, it’s important to consider the implications of a rent-to-own agreement before making a final decision on the matter.
Benefits of Rent-to-Own Agreements for Landlords
The decision to offer rent-to-own agreements can be challenging to make as a landlord. There are many options when it comes to selling a unit, so it’s crucial to do your research before making a final decision.
That said, if you are considering rent-to-own agreements to sell your property, it’s important to know the advantages of selling your property through a rent-to-own agreement.
So, here’s a breakdown of the benefits of rent-to-own agreements for landlords.
Attract Financially Responsible Tenants
Offering a rent-to-own agreement may alter your applicant pool, as these agreements attract renters who are prepared to buy.
Because buying a property is a massive investment, most prospects who are interested in purchasing a home through a rent-to-own agreement are financially responsible.
This can translate to a reduced risk of unpaid or late rent payments.
Save on Agent Costs
Generally, home sellers are responsible for covering realtor fees. As the typical realtor commission fee sits at 6% of a home’s sale price, paying realtors can result in a hefty chunk taken out of your sales revenue.
For example, if a landlord sells their property for $250,000, they can expect to shell out $15,000 in realtor fees alone.
When using a rent-to-own agreement, there’s no need for realtor services, meaning landlords can keep the 6% for themselves.
Protect Yourself From Housing Market Changes
The real estate market can be unpredictable at times. Where one year a market is hot and houses are selling like hotcakes, the next year could see the market cooling down dramatically.
Unpredictability can give some landlords anxiety over the risk as they seek to get their property listed on the market. Selling at the “wrong time” can result in thousands of lost sales revenue.
However, rent-to-own agreements offer landlords some protection from the unpredictable nature of the housing market.
Generally, rent-to-own agreements set a property’s sale price in the lease agreement at the start of the lease term, which remains the same right up until the lease term ends, regardless of the changes the housing market goes through.
In short, rent-to-own agreements allow landlords to lock in a sale price for the duration of the lease term.
Benefits of Rent-to-Own Agreements for Tenants
The benefits of offering rent-to-own agreements aren’t limited to landlords. In fact, renters have a lot to gain from signing a rent-to-own agreement.
Here’s a look at the benefits of rent-to-own agreements for tenants.
Start Building Equity Early
One of the most common arguments against renting over homeownership concerns equity. Some consider renting a wasted opportunity to build equity.
Although, that’s an overgeneralization. Buying a home isn’t always the best option for a renter.
Of course, if you are a renter who is ready to purchase a home, rent-to-own agreements offer the best of both worlds.
The renter retains their tenant status while building equity through rent payments if they choose to purchase the property.
Whether a rent-to-own agreement is best for a renter, solely depends on their individual circumstances.
Moreover, it depends on the terms of your rent-to-own agreement. Some agreements do not allow for equity building.
Additional Time to Save and Build Credit
Generally, down payments on a home purchase must be at least 20% of the home’s sale price (though this can vary).
Additionally, most mortgage lenders require applicants to hold at least a 620 minimum credit score to secure a mortgage loan.
A rent-to-own agreement provides the perfect opportunity for renters who need time to reach these milestones
Not only can renters save during this time, but they can also build credit before applying for a mortgage loan.
That said, a renter should know how to increase their credit score before signing a rent-to-own agreement. That way, they can employ their strategy quickly.
Locked-In Home Purchase Price
Remember the unpredictability of the housing market? It affects renters, too.
If you’re in the market for a new home, you’ll soon find out that pricing changes, bidding wars, and low inventory can result in a very taxing home buying experience.
Fortunately, renters can avoid this process and still end up in their dream home by choosing a rent-to-own agreement.
With the purchase price set at the start of the lease term, there are no unexpected price changes due to the rental market's finicky ways.
In cases where a market heats up significantly, renters can save big on their home purchase, even as the home’s value increases.
Of course, this goes both ways. If a home’s value drops during the lease term, the tenant is still on the hook for paying the agreed-upon purchase price, even at a loss.
Basics of Rent-to-Own Agreements
Now that you’re aware of the benefits of rent-to-own agreements, you might be wondering how rent-to-own agreements work.
Unfortunately, rent-to-own agreements are legally complex documents that can be difficult to decipher.
That said, the basics of a rent-to-own agreement are relatively straightforward. Every rent-to-own agreement includes a standard lease agreement and an option to purchase the property.
There are two primary types of rent-to-own agreements: those with a lease option and those with a purchase option. Here’s a brief rundown of how they differ.
- Lease Option: Rent-to-own agreements with a lease option gives the tenant the option to purchase the unit once their lease term expires. The renter does not have to purchase the property.
- Lease-Purchase: Rent-to-own agreements with a lease-purchase require the tenant to purchase the property. The tenant is legally obligated to purchase the property at the lease term’s end.
Obviously, both terms have very different legal implications. It’s best practice for anyone considering a rent-to-own agreement (landlord or tenant to discuss the matter with a real estate attorney. The real estate attorney will provide relevant advice and guidance on the matter.
Things start to get murky when it comes to rent-to-own contract terms.
The contract terms of rent-to-own agreements vary greatly depending on the type of agreement and the preferences of both parties. Here are some rent-to-own contract terms to consider and assess before finalizing any agreement.
- Lease Term Length
- Late or Missed Payment Penalties
- Equity Building (through a percentage of rent payments)
- Purchase Price
- Which Party Covers the Cost of Repairs/Maintenance (& defining maintenance)
- Which Party is Responsible for Lawn Maintenance ((& defining lawn/property maintenance)
- Financial Requirements (Credit Score, Mortgage Pre-Approval, etc.)
In addition to the basic rent-to-own agreement contract terms, it’s important to keep an eye out for rent-to-own agreement fees and financing. Here are two rent-to-own agreement fees and financial terms to consider.
- Option Fee: Option fees are non-refundable, one-time fees paid to landlords at the start of the lease term. Option fees are generally set at 1%-5% of the property’s purchase price. It reserves the tenant’s option to purchase the property at the end of the lease term.
- Lease Credits: A lease credit is a percentage or flat-rate portion of the rent that is reserved and applied to the home’s purchase price.
It’s essential for both parties to thoroughly read through the rent-to-own agreement. Understanding every contract term and clause is crucial to help both landlords and tenants avoid problems or disagreements in the future.
Whether rent-to-own agreements make sense for you as a landlord is completely dependent on your situation and needs.
It’s always best to consult with a real estate attorney to help you determine your best option.
That said, if you’re looking for a renter to fill your vacant unit, you’re in the right place.
Apartment List offers landlords and property managers a platform to list their units where interested prospects will find them.
We deliver high-quality prospects right to you. It’s simple and effective.
Interested? List with us.