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The Lease Option

by Rick Anderson

When buying a new home, few use the lease option—sometimes called the lease-purchase option—aside from experienced property investors, simply because it’s not well known.

However, the lease option is a great tool for buying property you couldn’t otherwise afford. Simply put, this is a type of contract between the potential buyer and seller where the buyer gets to live in the property (typically a single-family residence) while leasing it, while having the right to purchase at a previously agreed-upon price, and on or before a previously agreed-upon date.

If you’re the buyer, you make specific monthly payments, some of which are applied to the eventual purchase, some of which are applied to a straight leasing fee. The beauty of this type of contract is that it doesn’t commit the “buyer” to actually buy the property. Why? Because purchase is an option. The buyer can exercise it, but doesn’t have to do so.

In addition, leasing provides a “win-win” scenario for both potential buyer and seller. Here’s how:

The buyer gets full use and tenancy of the property without a purchase. Depending on when the option deadline is, the buyer can wait to see if the property’s value increases. If it does, he can buy it. If not, he can walk away.

If he chooses to use the option, his total price has been reduced by whatever portion of his monthly payment went toward the anticipated purchase. (Of course, if he doesn’t use the option, he doesn’t get that money back; nor does he get back his initial deposit that the contract requires him to make.)

The buyer has the advantage of time, usually one to two years (typically in a rising market) to buy at a pre-determined price. Best of all, the potential buyer may sub-lease to a tenant, creating cash flow for himself. (This is known as a sandwich lease option.)

Finally, the buyer has the advantage of time to position himself to buy the home he wouldn’t ordinarily be able to afford. In short, he “locks up” the property, and uses it as if he owned it, although he hasn’t bought it yet.

The seller, too, has certain advantages. One big advantage is freedom from maintenance costs and responsibilities normally present with a renter. The seller gets a non-refundable deposit up front from the buyer, and has the peace of mind of knowing that the property’s under contract and is probably being carefully maintained by someone who hopes to own it one day (the “pride of ownership” factor).

Since the monthly payments in a lease option are typically designed to cover seller’s principal, interest, taxes and insurance plus a small profit, the seller’s cost of ownership during the lease period is nil. Finally, the seller’s taxes on the portion of the money applied to the option purchase price are deferred until the option term expires or the buyer decides to buy or not to buy.

Rick Anderson  is a private real estate consultant. For more information, visit www.raameriwealth.com.