Federal Financial Insights
July 20th •
Also called a lease option, renting-to-own can be a good way to land your dream home—even if you can’t afford to pay for it right now. When you’re on the hunt for a new house and considering a lease option, take advantage of these tips to make the process simple and affordable.
A lease option is supposed to be a pathway to ownership, so treat it that way. Research the value of the home by checking listings for other similar properties that have sold during the past few months, and keep these numbers in mind throughout the whole process.
Don’t just take a 10-minute walk through the house. Hire a professional to inspect the house and note any major or minor repairs that will be needed. You can take these into account when negotiating the purchase price.
The home’s rent should not be higher than market value, period. You will be paying additional money to cover the lease option, so remember that your rent is just that—rent.
Talk to a mortgage broker beforehand to get a good estimate for how long you will need to recover your finances and secure a home loan, save up a down payment, and fix your credit. Only then can you choose a reasonable option term—typically from two to five years—during which you are able to get a mortgage and purchase the home.
This also means that if you sign a term for two years, but are unable to afford the house for three years, you have lost two years’ worth of time and money.
Simply put, the option fee is the money you spend to have the option to buy the home at the end of your option term. This fee is usually NOT refundable—remember, you are paying for the option, not a deposit.
The monthly fee is typically about 1% of the home’s purchase price on top of the rent. The good news is (and make sure to get this in your contract) that the option fee goes towards your down payment when you finally buy the house.
Rent credit is another great way to build up your home’s down payment. Most agreements give between 10% and 15% in credit, meaning that a house costing $1000 per month will net you from $100 to $150 towards your future down payment. Over the course of a longer option term, these savings can be significant. Often, rent credit relies on making your payments on time, so check your contract to be sure.
You will often be on the hook for repairs during the term of your option, which can seem like a bad deal. Fortunately, modifications or repairs you make to the house during the term of your option are considered “sweat equity,” which can indirectly increase your down payment. Sweat equity shows that you have increased the value of the house, which can lead to better loan terms down the road.
Don’t make the mistake of accepting the landlord’s sale price at face value. Renting-to-own is just another way to buy a house, so negotiate just like you would otherwise. By now you know the market value of the house and had it inspected, so don’t be afraid to ask for a lower price. Also, make sure this price is fixed for the entire term of the option. You don’t want any surprises based on “future appraisals” at the end of your lease.