A lease option — or “option to purchase” — gives a potential buyer the option to temporarily lease a seller’s property with the option to purchase that property at an agreed-upon price in the future. A potential buyer is not obligated to purchase the property, however.
The monthly lease payments in a lease option are typically higher than market value. This gives a seller assurances that the buyer is serious about wanting to purchase the property. These lease payments are not deductible from the agreed-upon purchase price in the event that the buyer agrees to purchase the property. However, the amount paid above market value is viewed as a down payment and is deductible. Other deductible expenses include mortgage interest and property taxes.
A lease option ranges from a few months to three years.
Purpose of Lease Option
Lease options allow people with poor credit history, or without a down payment, the ability to purchase a property. Furthermore, they give sellers who are in no rush to sell the property the ability to collect rental payments, while also increasing the chance that they can sell the property once the down payment is made.
As described above, a lease option provides a tenant the ability to purchase the property he or she is renting in the near future. In such an agreement, the tenant and property owner agree that, following the end of the lease agreement, the renter has the option to purchase the property. The rental payments may constitute a down payment towards the purchase of the property. The major issue with a lease option is that the tenant is not obligated to purchase the property at the end of the lease, however a seller must sell the property if the tenant has the means to pay for the purchase.
Requirement of Lease Option
The lease option must be in writing and should indicate all clauses which relate to the successful close of a transaction, including details like close date, expiration of the lease option, and amount for the sale and rent. There are no specifics with regards to the fee or percentage that a renter must pay; however, standard practice dictates that the renter will usually pay a fee equivalent to 3% to 5% of the total purchase price in interest to secure a lease option.
At the conclusion of the lease option, the tenant must either exercise their right to purchase the property, or forfeit the lease option and surrender the property. In many instances, a lease option is an option for a buyer when they need the time to get the remaining capital needed to purchase thee property or the time to fix their credit to get the financing needed to retain a loan.
Lease Option Specifics
In return for providing the tenant with the lease option, the landlord might charge the tenant with a higher rental payment than the market dictates. Oftentimes when this occurs, the property might apportion some of the increased rental payments towards the balance of the purchase. Should the tenant forfeit their right to a lease option, either because of the financial ability to do so or the desire to purchase the property, the increased rental payments that were initially meant to pay down the balance will likely be forfeited.