What Is a Lease Option (Lease to Own)? How Do Lease Options Work? What Are the Benefits?

May 1, 2017

A lease option is an arrangement with the buyer and the seller to exercise the option to buy a house after renting it for a specific period of time. A portion of the rent paid would be applied toward the purchase of the home if the option is exercised at the end of the rental contract. The excess rent paid during the agreement is typically referred to as rent credit, which most, but not all, institutional lenders will accept as part of the down payment for the purchase of the home. The seller and renter/buyer should make sure the rental payments exceed the local market rental rate and that the lease-purchase agreement in effect is valid according to the buyer’s lender. When a buyer applies for a loan with a financial institution, a copy of the lease to purchase agreement must be attached to the loan application and could offset the final sale if the contract is deemed invalid by the loaning financial institution.

Lease to own agreements can benefit both parties in a real estate transaction. The seller will receive monthly rent higher than market rent (with a portion applied towards to buyers’ down-payment), top-market value for the property and tax-free use of the option consideration until the option expires or is exercised. In slow real estate markets, home sellers may find a lease to own agreement more beneficial than a lower sale price. This route also gives the buyer a pride of ownership, often ensuring that the property is treated like a homeowner.

The downside of a lease to own option is often the extended timeframe required to build up the down payment portfolio, which may tie up a sellers’ equity/cash flow. The benefits of a lease to own option for a home buyer and a home seller should be considered closely before entering into a contract. Both parties should carefully read and understand the lease-option arrangement for details on transferring the property, along with other important concerns such as maintenance of the home throughout the contract.