At first glance, investing a rent-to-own property might seem like a safe bet. After all, there are many touted advantages when it comes to this method of home buying. With rent-to-own properties, the buyer has the option to purchase the home in the future while renting during the interim. The option to purchase remains with the buyer and some of the money that has gone towards rent is applied to the down payment on the home further down the line.
The benefits include the ability to opt in with bad credit, test drive a property, lock in a purchase price, and build equity as a renter. While these all sound like favorable options, there are many cons associated with this type of arrangement. Often, if it seems too good to be true it’s because it actually is. This is especially true when there are common misconceptions about rent-to-own.
For example, many people believe that rent paid in a rent-to-own agreement goes towards the down payment. In fact, the rent goes towards the owner’s mortgage, while a rent “premium” goes towards the down payment. A typical contract lasts between one to five years, and the renter is expected to make a home purchase at the end of the contract. While it may be unfair to advise others to avoid renting to own, we advise you to think twice about it and really weigh your options. Here’s what you need to know:
One of the biggest issues with rent-to-own properties is the amount of plausible scams. People with poor credit, low income, and big wishes for buying a home become easy targets for scammers looking to take advantage of less-than-ideal circumstances. Understanding the most common rent-to-own scams will help you better understand when you’re in a compromising situation.
One of the most popular scams involves setting up an agreement with someone who doesn’t own the property that you’re agreeing to rent to own. In this scheme, scammers will list a vacant house online as their own, and disappear after they’ve collected the money. Another scam, though technically legal, is when the property owner attempts to list the house way above market value. Those that don’t understand the real estate market can be easily tricked into paying much more than they should.
Even agreements with sellers who are honest can often lead to disappointment when the fine print isn’t on your side. If you insist on rent-to-own, always get advice from a professional legal representative with experience in real estate.
Option Fee & Rent Premium
In a rent-to-own agreement, renters are required to pay an option fee and a rent premium, which may make their costs substantially higher. The option fee is an agreed upon amount between the renter and seller, and if the renter agrees to purchase the home at the end of the contract, that fee goes towards the downpayment of the home.
Rent premiums also become rent credits towards the down payment. For instance, an option fee of $200,000 might be $5,000, while a rent premium might add another $200 or $300 to the monthly rent. Those extra hundreds accumulate towards the downpayment of the home.
However, if the renter doesn’t want to purchase, the option fee and rent credits are non-refundable. Even if the renter discovers serious issues with the property and decides to walk away, they’ll still lose any rental credits they’ve acquired, as well as the option fee. And furthermore, many agreements void the rental fee even if the renter is just one day late on the rental.
You May Not Qualify for a Mortgage
Many wannabe homeowners choose rent-to-own because it appears to be a viable option for people with bad credit. However, when the contract is up, you are not guaranteed to qualify for a mortgage, which means if your credit is good or cleaned up by then, you could lose significantly more than you would have as a typical renter.
Some renters hope to clean up their credit while saving for a down payment on the home, but there are never any guarantees. There are other reasons the buyer may be unable to make the purchase; for example, they may not have enough income or may not have a large enough down payment. Furthermore, if the seller has failed to pay the mortgage on the property, the renter could be forced to move as the home goes into foreclosure, and rarely is the potential buyer protected in this situation.
You Are Still Your Own Landlord
As a renter, you get the added benefit of turning to the landlord if you run into any complications. If there’s an issue with your plumbing or your gutters, you can call on your landlord to fix the issue, as they remain responsible for the property. However, with a standard rent-to-own home agreement, the potential buyer is responsible for all of their own fixes—even during the rental period.
Contracts Aren’t Standard
There aren’t standard contracts for a rent-to-own agreement and each state has their own regulations for rent-to-own arrangements. For instance, you never know what you’re getting into, and because of this, renters may find themselves in compromising situations. You want to make sure that there are no issues with the property title or that the home isn’t in foreclosure. If you’re looking for some of the conveniences of rent-to-own without potentially shoddy legal mishaps, consider researching some alternatives, like a land installment contract or wraparound financing.
Market May Fall
During a rent-to-own situation, you’ll typically lock in your prices. If the market goes up, then you wouldn’t have to pay as much on the home. However, if the market falls, you’ll end up paying higher than market value. Furthermore, there’s no guarantee that if the market rises, your landlord won’t be as receptive to following through on the contract, especially if there are clauses that you don’t understand.