Lease-to-Own or Land Contract?

February 15, 2012 in Uncategorized

We have already  discuss land contracts as a means for buying or selling  real estate home in a complex market. Now, we’ll take a look at rent-to-own agreements, which are more or less similar, but with some  differences.

Both land contracts and rent-to-own (also called lease-to-own) agreements are a type of seller financing. They can make it easier to buy or sell a home at  times when mortgage financing is hard to come by, by eliminating the need to get approval from a regular lender.  

Rent payments go toward equity

  In both  rent-to-own or land contract, the buyer makes regular monthly payments to the seller instead of the bank or other financial institution. After the lapse of  period specified int he contract, more often two to five years,  the buyer pays off the balance of the sales price by taking out a regular mortgage on the property.   In a lease arrangement, the contract is planned to give the buyer the option to buy the property at a specified price at the end of the contract. On a land contract, the buyer purchases the property at the outset, with a balloon payment due to the seller at the end of the contract. In both cases, some or all of the buyer’s monthly payments, plus any money paid up front, are figured into the purchase price to help the buyer establish equity in the property.  

The seller as landlord

  The big difference between a rent-to-own arrangement and a land contract is that the seller maintains control of and responsibility for the property in a lease deal. The seller is responsible for the maintenance of the property, repairs and for paying property taxes and insurance, just  like any landlord. The seller also gets to deduct those costs, as well as any mortgage interest, on his or her tax returns.   On a land contract, the buyer is responsible for property taxes, insurance and mortgage interest, although these will usually be paid through the seller. However, the buyer does get to deduct them from his or her taxes while  the seller cannot.   A buyer’s right to make improvements or alterations to a property is lmited under a lease agreement, unless those rights are specifically stipulated in the lease contract.   For a seller, one of the main advantages of a lease-to-own arrangement is that it’s easier to evict a buyer for nonpayment. The process for evicting a tenant for nonpayment is generally faster and simpler than foreclosure, which is typically required in the case of a land contract.  

An option, not obligation, to buy

  For a buyer, a rent-to-own agreement carries less obligation at the end of the contract than a land contract does. In a lease-to-own, the buyer has the option – not the obligation – to buy the property at the expiration of the period for the contract. With a land contract, the buyer has already entered into a loan agreement for the full purchase price. If the buyer decides not to – or is unable to – obtain a regular mortgage to cover the balance remaining at the end of the contract, It redounds to a default and this will affect adversely to the buyers credit .   For the buyer, this makes a rent-to-own deal a type of “try before you buy” arrangement. If problems with the home are subsequently discovered, or if  Singapore property values fall significantly, the buyer can back out of the deal with no further consequence on his side, although they will not be entitled for the return of the  money they have paid in rent.   In order to protect his interest, sellers typically charge an upfront fee called an “option to buy.” Usually it involves several thousand dollars, it gives the buyer an added incentive to follow through on the deal and a cushion for the seller in case the buyer backs out due to receding home values.  

Advantages of Lease-to-own contract

  For buyers, one of the advantages of a land contract is that you can obtain title insurance and register the sale with the county (though many are not). This allows you to identify any property  liens on the subject  property which you may not be aware of if you opt for a rent-to-own arrangement. Registering the sale also provides a  degree of protection against subsequent liens against the property.   In a lease, the buyer loses any money paid in rent and upfront if they cannot keep up with the rent payments or are unable to obtain regular mortgage financing to complete the transaction at the end of the contract period. In a land contract, buyers may still retain an equity interest in the property , depending on law of the State where the property is located.   Finally, the main limitation of land contracts are also true of rent-to-own agreements. Specifically, if a buyer is unable to qualify for a regular mortgage now, there’s a  likelihood they may still be unable to when the contract period expires, even though many assume their finances, credit or equity position will have improved by then. Also, it’s a  more expensive way to buy a home compared to  a regular mortgage.  

If you decide to go through with  the rent-to-own or land contract , it’s important for both buyers and sellers to get the help of their own attorneyfor legal advice as well as to draw the  lease/sales contract. The advice of a Realtor with experience in setting up such agreements is strongly recommended as well.