Owner Financing or Rent To Own
Owner Financing VS Rent To Own
Over the past 20 years, I've helped thousands of buyers and sellers on their journey to homeownership or selling their property as a top real estate agent in Portland, Oregon area. Prior to being a Portland Real Estate Agent, I was a Mortgage Broker for 5 years, so I understand the benefits and differences between Owner Financing vs Rent To Own. Below I will break down what Owner Financing is, as well as what Rent To Own is, as well as my experience over the past 20 years on what expectations to have. What are the financial benefits as well as the risks and pitfalls for each? I will also go over how I have helped hundreds of my clients buy and sell using one or both of these methods of buying a home. Please feel free to contact me anytime to go over your unique personal situation so we can help guide you to what is best for you and keep you safe!
A Little History
It all started back in 2008. The mortgage industry was collapsing and we were going into a recession. Lenders had been approving mortgages for people who did not have to prove their income, and in some cases, their assets, so long as they had a high enough credit score. That ended with the Frank-Dodd Act which ultimately forced lenders to check income documentation and make sure the buyer had reserves in order to get approved. For self-employed buyers, who had great CPAs and showed little income due to allowable tax deductions, they were forced to either redo their taxes, wait two years and claim enough to show income to purchase, or not purchase at all. That's when I left the mortgage industry to become a Portland Real Estate Agent and have helped hundreds of buyers and sellers since determine if Owner Financing or Rent To Own was best. In some cases, waiting was best and I will explain that as well below. I can't tell you how great it feels to help people who think there is no hope for them to own a home become a homeowner, and I haven't looked back since. Please like this blog and share it if you feel this will help someone you know. Here we go...
Rent To Own - Higher Risk
Rent To Own, AKA Lease Option and Lease Purchase
Rent To Own, Lease Option, and Lease Purchase are all very similar so I will be clumping them together here since the benefits, risks, and expectations are the same. Many will argue one or the other is very different, but in the end, the results for you are the same. You are still a Renter with a Landlord! This is one of the reasons I tell buyers who are considering this method of buying a home, to consider working with an experienced mortgage professional to see how long it will take to be able to purchase a home. In most cases, it is in the best interest of the buyer to wait and I will explain why later. For now, just understand that though you may be able to be in a contract, and have the option to purchase a home, the benefits don't usually outweigh the risks. First, we will go over the expectations I've experienced, then the benefits and risks, and why I usually do not recommend this option unless it is the only option and best for our buyers.
Expectations with Rent To Own or Lease Options
All Sellers are different, but in my over 20 years of doing real estate, I have seen several different requests from sellers, however, there is a commonality of down payment requirements, length of Lease Option term, and other expectations or negotiations.
- Down Payment
Expectations for how much down payment for a Lease Option or Rent To Own ultimately come down to negotiations which we help our clients with. However, 3%-5% of the purchase price is what is typically expected to secure a Rent To Own Contract or Lease Option. So on a $500,000 home, you can expect to pay upfront between $15,000 to $25,000. This is also called the "Option Fee" on a Lease Option to Purchase. This is an upfront payment, not including the rental amount, and is usually applied towards the purchase price of the property, but not always. Read the Contract! We always negotiate for the Option Fee to be deducted from the purchase price along with any monthly rent credits that I will explain below. This is a Non-Refundable fee, so if you break the contract in any way, including not purchasing within the term, are late on one monthly payment, or do anything in the rental agreement that is not allowed, the contract can be claimed breached and you will likely lose your down payment if you don't fix the problem or renegotiate the terms. Some owners may be understanding but in the end, this is a legal and binding contract so make sure you read everything and seek legal advice if needed.
- Length or Term of Contract
A Rent To Own Contract or Lease Option to Purchase term is usually anywhere from one to three years. This usually is enough time for the buyer, you, to get their financial situation in order to fully execute the contract, or purchase the home. Every buyer is different and we have helped buyers be successful in getting financing within the term who follow a MAP, or Mortgage Action Plan, with one of our preferred lenders. You should be proactive in learning what you need to do in order to be successful and not lose your non-refundable option fee. This way, together, we can make sure you get the right amount of time to complete what you need to accomplish in order to obtain financing. That may be working with your CPA to show more income over the next 2 years to qualify, working on getting your credit score higher, getting 2 or more years from a recent bankruptcy or foreclosure, or just more time on the job for you or a co-buyer in order to meet the current lending guidelines and purchase within the term. Make sure you find out what you need, and best of all, it cost you nothing to find out. In some cases, we have seen people approved who didn't even know they could be or only have to wait a few months, thus allowing them to consider waiting and purchasing a home vs Rent To Own or Lease Option.
- Purchase Price
The purchase price of homes that offer Rent To Own, or Lease Options, is usually higher than what you could purchase if you were approved for financing for a similar property. The reason this is usually acceptable between buyer and seller is due to the ability to purchase the home in the future, so sellers usually sell at a price they think will be reasonable in the future, but that is not always the case pending future market conditions. Either way, this is common and causes most buyers to walk away once they are able to get the financing, which is why most Lease Options are not fully executed, or successful.
- Monthly Rent
This is always negotiable, and usually, the seller-landlord will offer a premium rental amount that is higher than market rent and offer what is called rent credit. Do not be fooled by a seller offering a huge rental credit, like 50% of the rent. The reason I say this is that as a former mortgage broker, and understanding what a lender will and will not allow, this is sometimes a sneaky or unwittingly way of getting you to agree to a contract if you don't understand what a lender will and will not allow. Lenders will usually only allow anything over market rent to be applied toward the purchase price. So if market rents are $2,500 a month, and you agree to $3,000 a month, expect only $500 to be used by the lender vs anything that is negotiated over that. Again, talking to one of our preferred lenders before getting into any contract is highly advised. Another thing to mention is that not all Rent To Own or Lease Options offer a rent credit, so make sure you read everything.
- Contracts Involved
In Oregon, as a Portland Real Estate Agent, there are three different contracts used for a Lease Option to Purchase. There is the Purchase and Sales Agreement, the Lease Option Agreement, and a Rental Agreement. These three Real Estate Agreements spell everything out including Price, Option Fee, Term, Rent, and Rent Credits, as well as terms for any breach of contract. This protects you in the best possible way in my experience. Make sure you are working with an experienced real estate agent and/or real estate attorney, and like I mentioned before, an experienced mortgage advisor to offer you a mortgage action plan, or MAP, so you are successful and don't lose in the end.
Rent To Own or Lease Option is a great way to purchase if you understand what you need to do in order to succeed. We can help you with that for free. We may offer a MAP or Mortgage Action Plan and suggest waiting until you are able to purchase any home on the market. There are a limited amount of homes offering Lease Options or Rent To Own and depending on your situation, and personal decision, it may be best one way or the other. Just remember you are still a renter and have a landlord and are subject to tenant-landlord laws. Contact us for a free consultation on what is best for you.
Owner Financing - Lower Risk
Owner Financing, AKA Seller Financing or Owner Contract
Owner Financing, Owner Contract, and Seller Financing are essentially the same thing, along with other terms like Land Sales Contracts or Wrap-Around Mortgages. In the Real Estate industry, it is very common to have multiple words for things that mean the same thing or similar, and moving forward, we will use Owner Financing. What I like most about Owner Financing is the many benefits that come along with it that are very similar to getting regular financing, and I will go over those below. There is still some risk as with any financing, but this method of purchasing a home allows you to have ownership interest
Expectations with Owner Financing or Owner Contracts
Again, all sellers are different, and there are other contributing factors, but in my over 20 years of doing real estate, I have seen several different requests from sellers, however, there is a commonality of down payment requirements, length of Lease Option term, and other expectations or negotiations.
- Down Payment
In the past 20-plus years of my experience as a professional real estate agent who specializes in owner financing, most of the time sellers are willing to accept a 10% down payment. That's $50,000 down on a $500,000 home and so forth. However, that is usually for sellers who are offering owner financing terms. There are times that I am able to help my buyers find sellers who are not initially offering owner financing and get them to agree to short-term owner contract that creates a win-win. In fact, a lot of times I do this. Money talks, and if a property is not selling or is vacant, the likelihood is even better to negotiate a 10% down payment. That is about 50% of the time when a seller is open to owner financing after we speak to them and go over the benefits to the seller vs renting to a tenant. However, there have been times when I've been told 50% down was wanted or 20%. So it's going to be different but I know how to ask the right questions once I know your capability and make a plan. If you have 10% or more down, this is a much better option than Rent To Own or Lease Option.
- Length of Term or Contract
The term of an owner contract is usually between one and five years. For sellers offering owner financing they usually are ok with three to five years, while sellers who were not offering Owner Contract terms, may be ok with one year, 18 months, or possibly up to three to five years pending how much down payment or what their personal financial situation is. It all starts with finding out what your needs are first and being proactive with a preferred lender of ours to get a free Mortgage Action Plan, or MAP, and see how long you really need so we can make sure we look out for your best interests while making this a win-win for the seller as well. You may only need one year, so let's not limit you and find out and then start searching.
- Purchase Price
My experience is to assume for this win-win to happen, you're going to likely be making a full price on the property. If you are not able to be approved for a home mortgage, then you are at a bigger risk than what lenders will allow, so a homeowner is not likely to accept a lower-than-asking price offer due to your special circumstances. You still get to do an inspection and negotiate repairs, purchase price, or both, or back out like any purchase, however, if you go in asking for a price reduction, consider this. What is stopping the seller from considering your lower-than-asking-price offer and just lowering the price enough to get a regular sale? We will offer you a Buyer Comparable Market Analysis to show what value is and usually, it's just a little north of what it needs to be which, considering the benefits of an Owner Contract, the premium you pay usually outweighs the alternative of waiting for another opportunity.
- Monthly Payment
Monthly Payment on an owner contract is like that of Conventional, FHA, or VA financing in that, based on an interest rate that we help you negotiate, you pay Principle, Interest, Taxes, Insurance, and sometimes HOA if applicable. There could be flood insurance, but what you won't have is Morgage Insurance. As for the Interest Rate, this again is negotiable. This will depend on current market interest rates, what the seller currently pays, what the seller owes, and other factors. As of 2023, with rates much higher than they were in 2022, and with many sellers refinancing in the lower 3% or 4%, you can usually negotiate a lower interest rate. However, each seller is different and in my time I've seen as low as 4% or as high as 10%. Usually, we see between 5% and 7% interest and it is fully amortized, but you could negotiate interest only as well.
- Contracts Involved
We use the Oregon-approved Purchase and Sales Agreement which offers the best protections along with a Seller Financing Addendum that really spells out everything including interest rate, balloon or term of the contract, down payment, how taxes and insurance are paid, third party contract servicing option, and much more. Having helped over 100 buyers and sellers with owner financing contracts, I will go over this completely with you as well as refer you to one of our preferred attorneys to answer any legal questions we are unable to answer.
Owner Financing is a fantastic way to purchase and in some cases, better than getting a regular mortgage. Less Closing Costs and potentially a lower interest rate than market rates with potentially lower down payment than 20% down. There are a limited amount of homeowners offering owner financing, and there are still risks with a short-term balloon due in one to five years, but you are not a renter and get the same benefits of buying a home with a mortgage. Just be proactive and make sure you can meet the terms before you buy. Contact us for a free consultation on what is best for you.
Benefits vs Risks of Owner Financing and Rent To Own
Buying a home with Owner Financing or Lease Option (Rent To Own) can be very beneficial to you pending your needs. It offers security for those who have a plan and know they can execute the plan and get approved for a mortgage within the term agreed to. However, Buyers who are able to negotiate an owner contract get ownership benefits that help more financially versus still being a renter. An owner contract also allows you to refinance based on the appraised value vs the purchase price, whereas a Lease Option only lets you base the loan to value on the purchase price, even if the value is higher. An owner contract is usually longer and if you are unable to refinance for any reason within the term, you can sell the property to get your money back, whereas you most likely won't be able to do that with a Lease Option or Rent to Own, so your initial down payment is more secure. Also, with an owner contract, you could be able to build sweat equity so long as the contract doesn't specify otherwise. The main risk for both methods of buying includes something called a Do On Sale Clause if the seller has a mortgage still on the property. However, we will go over this more with you and how we help our buyers and sellers navigate through this risk, and what we do to help our clients when they come across this scenario. Another risk is the seller collecting the money and not paying the mortgage. That is why we always negotiate to use a third-party contract servicing company to collect the payment from you and pay any lien holders first. This also helps keep track of payments which will help your lender in the future. Everything else is done like a normal purchase including obtaining title insurance and recording your contract with the county so you don't lose your vested interest. If you have any questions or concerns, fill out the form below.
We are here to help protect you and make sure you are successful!
What Next? How do we find a home offering Owner Financing or a Lease Option?
By working with our team, we will help you through the process and go over your personal situation and other benefits and risks. In the end, you will need to decide and the more you know will help you make an educated calculate risk assessment vs the benefits to you and your future. Contact us today for your private consultation and free mortgage action plan or MAP.