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Rent to Own Homes: How it Works, Advantages, Disadvantages

Article writer - Alina Osmena image

Rent To Own is a Rental Contract with the option to buy a home at a predetermined price after the Rent-To-Own period ends. A portion of the rent paid goes toward equity and also toward establishing or building credit.

What is Rent To Own? How it works 

A rental contract with the option to buy a home at a predetermined price after the rent-to-own period ends. A portion of the rent paid goes toward equity and also toward establishing or building credit. For a structured real estate option to be effective in Canada, a non-refundable consideration is paid to the property owner which is usually a few percentage points on the value of the home.

The question of what is rent to own is easiest to answer in the housing industry, since leasing a home with an option to buy has long been a standard form of contractual arrangement. However, the modern rent to own industry has expanded over the past fifty years to include offerings of a wide variety of durable goods, from furniture and electronics to computers and auto accessories. Rent to own offers consumers the opportunity to obtain top of the line, name-brand products with no obligation whatever to buy or to go into debt. Indeed, there is no credit check because there is no credit involved.


Rent-to-Own Agreement Seller Buyer

In a Rent-To-Own or Lease Option agreement, a potential buyer and seller agree on both a price and term for the option to purchase a property. The potential buyer may chose to purchase the property using cash or a new loan any time within the option period and at the agreed upon price. During the option period, the potential buyer will pay the seller a rent payment for the property.


Sellers Rent to Own Advantages, Disadvantages, and Considerations 

For sellers there are several advantages when selling a property on Rent-To-Own, but there are some things that must be considered in order to know if selling your home on Rent-To-Own is right for you.

1. Do you need to cash out all of the equity in your home? If you absolutely need to have all the cash at closing, Rent-To-Own is probably not a viable solution. You can consider doing a cash out refinance, however you will probably not find a bank willing to do finance %100. It will likely be at most 80% Loan To Value.

2. Do you need to have the existing loan on the property paid off in order to qualify for your new home? If the answer to this is yes, then Rent-To-Own will not work well for you. The loan will remain in your name until your prospective buyer is able to secure financing in their own name.

3. Will you be able to cover your mortgage and costs with a rent payment? In some markets, the rent prices will not be high enough to cover the cost of a mortgage. It would be prudent to perform a rent survey in your area to validate your expectations. Keep in mind that often times a Rent-To-Own buyer may be willing to pay more than market rent in order to have the option to purchase the property at a future date.

If Rent-To-Own is a viable option, some of the advantages could be positive cash flow, tax benefits, a higher selling price, and an upfront down payment or option payment. Sellers may also require the potential buyers to maintain the property and handle routing maintenance because they have an interest in owning the property. Disadvantages include delayed sale, managing rent, managing tenants, and sellers remain on title and on the loan so their credit is tied up.

Buyers Rent to Own Advantages, Disadvantages, and Considerations 

As in all real estate purchases, the buyer needs to be diligent about the purchase of a home even if it is Rent-To-Own. There are some key considerations buyers need to be aware of.

1. The purchase price is agreed upon up front, however it may require a little more market research to know if it is a price that will work for you as a buyer. Buyers need to understand that the purchase price will likely be somewhere between today's value and the projected value at the end of the option period. As a buyer it is important to negotiate the purchase price and be comfortable with it going into the deal, understanding that the actual value will likely be different when it comes time to get a loan.

2. What Maintenance and repairs are you expected to be responsible for? It may be all of them because you are expected to have an ownership mentality; however it would be prudent to limit the amount you could be responsible for. As an example it is reasonable to expect that the buyer would be responsible for replacing a water heater if it goes bad, but replacing the furnace may be more than you are willing to take on.

3. It may be a good idea to get an inspection ahead of time. It may not help you negotiate on price or terms, however it will be a benefit knowing what you are getting into.

There are several advantages of buying on Rent-To-Own. You will have time to get your finances and credit in order so you are able to close on the home you already live in. If the house is not what you expected or your needs change over time, then you have an option of not buying the property. You will have flexibility to create equity in the property by making improvements and thereby improving your chances of getting suitable financing. Some of the disadvantages are, that you will likely pay more for rent, and the agreed upon purchase price will likely be higher than what you would pay if you were able to finance it today, and you will not be able to take advantage of the tax benefits of owning a home because you will be renting for a period of time.

Some important items to note from both the buyer's and seller's perspective:

1. This is an option. That means that the buyer has an option to purchase the property. They are not obligated to purchase the property at the end of the option period.

2. The seller will still be on title to the property until the potential buyer either pays cash or obtains a new loan in order to exercise their option.

3. If the property appreciates beyond the price in the agreement, the potential buyer can still purchase the property at the original agreed upon price as long as it is within the terms of the option agreement.

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