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Lease Option Overview

Lease Options are similar to a Lease Purchase in that they often lock in the price of the home at the onset of the contract. However, with many Lease Options you have the right to purchase the property by a certain date, but are not obligated to do so. Most often, option money is non refundable in the event you do not purchase the property.

With current forecasts of growning home values, however, it is not surprising to see Lease Purchases and Lease Options gaining favor today.

What is a Lease Option to Purchase?

Often the biggest obstacle to becoming a homeowner is coming up with enough cash for a down payment. One way for cash-strapped home buyers to realize their dream is to lease a home with an option to buy.

Here's how a lease option works. The buyer's (called an Optionee) leases the property from the seller (called the optionor) for a period of time. The lease contract gives the optionee the right to buy the property at the end of the lease period, or earlier by mutual agreement, a a price agreed upon in the contract.

The optionee pays a sum, called option money, to the seller at the beginning of the lease. This money is applied to the purchase price of the home if the option is exercised. The option money is forfeited to the seller if the optionee doesn't go through with the purchase. The option money is non-refundable.

Like any contract, the terms of a lease option are negotiable. The length of the lease typically can be 12 to 24 months, but anything may be agreed upon. The amount of the option money, the purchase price and the rent amount per month may also be up for negotiation. Sometimes a seller will agree to credit a portion of the rent toward the purchase, providing an additional incentive for the buyer to go through with the purchase. One thing is certain: during the lease period, the seller cannot sell the property to another buyer!

Even though the amount of the option money is negotiable, it's usually less than the down payment amount required to purchase the property following conventional practices. So for relatively little cash up front, a lease option allows the buyer to tie up a property at today's prices, and live in it before making a decision to purchase. If you're buying in a market where home prices are rising, a lease option might be a wise choice because you set the purchase price up front.

There are two parts to a lease option agreement. The first deals with the terms of the lease (rent), and looks like a standard lease agreement. The second deals with
the terms of the purchase and looks like a normal purchase agreement.

Home buyers who have a house to sell in another location may be able to lease option a home to give them a place to live and time to sell their home. Then they are able to use their equity from the sale to purchase the home they are renting a
at an agreed price.

NOTE: Since you forfeit your option money if you don't go through with the purchase, don't option a property that you have no intention of buying.

Lease Option Agreements

A Lease Option agreement is usually two separate agreements between the parties: A Lease and an Option Agreement. The Lease Agreement is a fairly standard rental agreement, the Option Agreement is a purchase/sale agreement whereas the tenant/buyer has the exclusive right to purchase the house for a specified price and term. The price of the home may increase if the Option Agreement has a term of many months or years. The seller cannot sell the house to anyone else as long as the Option Agreement is present.

The tenant/buyer leases the house for a specific monthly rent and term.. Part of the rent may or may not be applied to the purchase price. The Earnest Money Deposit (also called an option fee), price and terms of the sale are negotiated in the Option Agreement.

The Lease Agreement usually has a default clause. If the tenant/buyer does not pay the rent as agreed in the Lease Agreement, the Option Agreement is null and void, and the Earnest Money Deposit is forfeited by the tenant/buyer.

Lease Option arrangements work very well for buyers needing to improve their credit. The tenant/buyer can find a home they wish to purchase, move in, enroll their children in school and enjoy the home while rebuilding their credit. The on-time rental payments will help build the tenant/buyer's credit rating. Coaching and mentoring the tenant/buyer on methods to improve their credit is of great benefit to the Tenant/buyer, and helps to prepare for the responsibilities of home ownership.

Many lenders consider the execution of the Option Agreement as a refinance loan instead of a purchase loan. A refinance loan usually has more liberal underwriting criterion than a purchase loan, Therefore, refinance loans are easier to qualify. Also, increased equity may be considered in the loan to value calculation.

"Rent to Own"
Sometimes you will hear that the status of a house is "Rent to Own." That generally refers to a house that is available for a lease purchase or lease option, as described above.