What is a Rent-to-Own Home?
For most buyers, purchasing a home means that you’ll first need to be approved for a mortgage. To qualify, certain requirements must be met such as a decent credit score, money for a down payment, an acceptable amount of income compared to debt, amongst other things. For some, this traditional path to homeownership may not be a viable option.
Thus, renting-to-own a home presents an alternative route for renters who want to buy but can’t currently qualify for a mortgage. Future buyers have the opportunity to lease a home with the option to buy it before the lease expires. Although this may sound like the perfect plan, rent-to-own agreements can be quite complicated AND risky. Before getting into the pros versus cons of going the rent-to-own route, it’s important to understand the key terms to watch out for.
- Rent-to-own contracts usually last between 2-5 years
- You can decide you don’t want to purchase the house after your contract expires.
- You will be responsible for paying an upfront option fee. This fee will be credited towards the purchase of the home. If you decide not to purchase the home, this fee is usually non-refundable. There is no standard option fee amount but it’s typically a percentage of the home’s purchase price.
- The rent-to-own process is less regulated thana typical renting or buying process, so there’s no standard contract. This means that all terms in the contract are negotiable. It’s important to get an attorney and/or real estate agent to assist with drafting and explaining the terms of the agreement.
- Allows buyers the opportunity to live and pay towards their home while rebuilding their credit scores.
- Buyers can lock in a purchase price now and avoid the natural increase of home prices years into the future.
- The option to live in the home before committing to buying the property.
- Reduce the cost and inconvenience of moving multiple times.
- A portion of the rent goes towards the price of the home.
- Can qualify with unfavorable credit ratings and history.
- Large upfront fees.
- If you decide to terminate the contract early or not follow through with the purchase, you forfeit your option fee.
- You may still not qualify for a mortgage at the end of the rent-to-own agreement.
- Only a small portion of your monthly rent payment will go towards the purchase of the home.
- The rent payment price through a rent-to-own agreement is typically higher than other rent prices for similar homes in the area. This is largely due to a portion of each payment being set aside as credit for the future purchase of the home.
- You may be responsible for repairs, regular maintenance, HOA fees, and property taxes while renting.
- Home values can go down and you could end up paying more than the property is actually worth.
There are also companies out there that will purchase a home of your choosing and will lease it back to you using the same rent-to-own method. However, such companies typically tack on an excessive amount of fees. Also, should you decide not to follow through with purchasing the home after your lease expires, you can be out of a lot more money than just your monthly “rent” payments.
It’s important to know that these companies do still run their own screening process as not everyone will be approved to go through their program. Although their requirements are lower than qualifying for a mortgage outright, they usually call for more upfront cash to compensate for other areas where normally a decent credit score and payment history would suffice. Below is an example of some of the fees you may incur when renting-to-own from a company.
- Administrative or Onboarding Fee – sometimes this can be as much as 1% of the total purchase price. This fee is paid upfront and is usually non-refundable.
- Purchase Option Fee – this upfront fee is usually 3% or more of the home purchase price and will go towards your down payment. However, should you decide not to purchase the home at the end of the lease term, you will forfeit the 3%.
- Rent Payment – you will typically pay above the regular mortgage amount and in most cases, the current rental market value for the rent-to-own home while only 10% of that payment will go towards the purchase of the home.
- Purchase Option – some companies will require that you pay a certain percentage above what it cost them to acquire the property (purchase price plus any applicable closing costs). For example, if the company’s fee is 6% and the home cost $150,000 with $6,000 in closing costs, your new purchase price would be $165,360 ($150,000 + $6,000 = $156,000; $156,000 X 1.06 = $165,360)
Overall, the cons of rent-to-own homes outweigh the pros. Although buying a home the traditional way may take more time, it’s worth it and far less expensive. If you are wanting to purchase a home but don’t qualify just yet, it’s important to talk with a real estate agent about your options to make a good decision for your future.