Rent to Own Homes - Good Deal or Gotcha?

A very popular way to purchase homes in Minnesota these days is the “Rent to Own” option. Rent to Own offers people a way to seemingly purchase a home without bank financing and only having to put a minimal amount down. It’s a really great deal.

Or is it?

What most people fail to realize is that a rent to own isn’t actually a purchase at all. A rent to own is technically renting with the guaranteed OPTION to purchase the property by a set future date at a set price. What generally occurs is that a renter offers to rent a particular property for a set period of time — usually 1 to 3 years. In addition to the rent, they pay an option fee — the option fee gives them the guaranteed right to purchase the property at a predetermined price by a predetermined date.

So, for example, let’s say that John and Jane Smith decide to rent a house at 123 Main St. John and Jane may agree to rent the house for $1500 a month for the next 3 years. In addition, they sign an option agreement that says they have the right to purchase the property any time within the next 3 years for $209,900. Today, the home is estimated to be worth $215,000. The owner is willing to sell the property for $209,900 because the market is so slow right now and is willing to allow the renter to purchase the home at the price for up to 3 years! If the market changes and the house is worth $220,000 in 3 years, the renter still has the option to purchase the home $209,900.

Of course, the Seller doesn’t necessarily do this out of the kindness of his or her heart. And there is usually an “option fee” that is equivalent to 3-5% of the agreed upon purchase price. So John and Jane pay a 3% option fee — that’s $6297 for those not quick with the math.

Now, some might say that paying $6297 for the right to buy a house in the future doesn’t make sense. Generally speaking, though, that option money can be used as down payment money in the future if the renter decides to buy the house. Effectively, the seller is dropping the price of the house another $6297 at the time of purchase. Some owners will even credit you a portion of your monthly rent towards the purchase price. In John and Jane’s case, let’s assume they were able to get the owner to agree to apply $100 a month of their $1500 rent towards to down payment of the house. Over 3 years, that’s an additional $3600. So at the end of the 3 year rental, John and Jane have effectively “saved” $9897 towards the down payment of their home.

Keep in mind, however, that the option money is non-refundable. That means that if at the end of 3 years John and Jane decide they don’t want to buy the house, they lose the option money and any rent credit they accumulated. This may sound like a “Bad Deal” — but if they had actually purchased the home for $215,000 and then wanted to SELL the home in 3 years time, there are a lot of costs (and a lot of time waiting for someone to BUY the home).

If, for example, they purchased the home for $215,000 and then in 3 years wanted to sell the house, they can expect to spend roughly 5-6% in commissions to a real estate company for selling their property. At 5% that’s $12,900!!! And what if it’s a job transfer and John and Jane move out of state - leaving their home behind unsold? They are now paying the mortgage for a home they don’t live in, utilities, taxes, and general maintenance expenses, too! This all adds up to far more than the $6297 option fee…

Rent to Own options are absolutely a great deal - for the right kind of buyer/renter. If your credit needs repair before you can qualify for a mortgage, a Rent to Own may be the only way to “buy” a home right now. And with the soft market it makes negotiating a good purchase price much easier. So even if you can’t qualify for a mortgage the Rent to Own option still allows you to take advantage of today’s great prices.

But think long and hard about your reasons for wanting to do a Rent To Own. It’s a valid option - but one that must be thought through.

Feel free to comment below and/or e-mail me with your specific questions. I’d be happy to help you decide if rent to own is right for you. you can also fill out our Tenant Profile form and I can get back to you with some specific Rent to Own options for you to review.

Until Next Time!!

-rg