What Sellers Should Know About Lease Purchase Agreements

Posted by Joe Manausa on Friday, March 27th, 2009 at 11:37am.

I love when we get questions from friends and readers that we can use as the basis of our discussion on the Tallahassee Real Estate Blog. Today, Jeff has a great question that I think a lot of homeowners will find interesting.

Jeff's parents have a house for sale in another town and they received this letter from a local real estate investor. Jeff would like my opinion on the letter, which reads:

Hi, Today's facts in the real estate market: FSBO homeowners will spend, on average, $3500 in the first 90 days of trying to sell their homes. If they later sign with a realtor, they will spend an additional $8500 by the time their home sells, if it does. On top of this, they will have about a 50% chance of selling, probably at around 90% of asking price, if they're lucky, after their home has been on the market for at least 175 days.These are not very impressive statistics. I am a local real estate investor and I have lease option buyers. Selling your home on a lease option immediately eliminates all your financial responsibilities, gives you 100% market value of your home within 24 months, and, under our contracts with the buyer, also eliminates all landlord responsibilities. What does this cost you? ABSOLUTELY NOTHING!!! I get paid by the buyer. If you would be interested in this, please email me with your contact info or you can call me @ 555-444-1234. Thank you and I look forward to working with you.

I really think there are some important issues that Jeff and his parents should consider.

Lease-Purchase Contracts Are A Creative Way To Sell A Home

The first thing that I will point out about the letter is that it raises some serious and real issues that home owners are experiencing in today's real estate market. There is a nationwide glut of homes and sellers need to consider some creative options for selling their homes.

Lease-purchase agreements can be an excellent way to sell a home. If the seller is capable of waiting for a delayed closing, and the buyer is capable of finally making it to a closing table, I am a great fan of this wonderful solution. You can check out a blog article I wrote one year ago dedicated to creative financing options for home sellers.

Again, while I am a big proponent of lease-purchase contracts, I will advise to proceed with caution. This solution provides the benefits of receiving a top sales price, positive cash flow, it increases the buyer pool for the home when marketed that seller will consider a lease-purchase, it reduces seller maintenance costs, theoretically does not require the seller to become a landlord, and can be the source of a large, non-refundable deposit if exercised properly. But there are ways of getting burned that the home seller needs to prepare against.

You Should Trust The Real Estate Professional With Whom You Are Working

I am sure that the skeptical reader will call this self serving, but I must warn that you work with a trusted, branded, real estate broker who you know you can trust. There are too many ways a home seller can be tricked, played, or deceived by a non-licensed real estate investor that might end up costing the home seller even more than the equity in the home.

Somebody needs to advocate for the homeowner. A standard lease-purchase agreement can be downloaded from the internet, but a savvy investor can prepare it in a manner that does not protect the equity or security of the property. There is so much that I do in a lease-purchase situation that it would take hours to write it all out in a format like this, but I can offer some basic points to consider when protecting the seller when utilizing a lease purchase:

  • Qualify the lease-purchase buyer. What are his intentions? Will he be moving into the home or sub-leasing it as a way of "creating wealth in real estate."
  • Qualify the lease-purchase agreement. Is the agreement written for the behalf of the buyer, the seller, or is it neutral? What happens when the buyer defaults? If damage is done to the home and the buyer has failed to pay the rent, does the real estate investor do anything to help the seller?
  • Use a Fannie Mae 1003 loan application to make sure that the seller knows the entire financial story of the buyer. If the buyer has no chance of closing on the property during the contracted period, than the seller needs to understand the lease-purchase is really only a lease.
  • Involve a non-refundable deposit so that the buyer has some "skin in the game." While I would not make this a mandatory step, I would certainly make it very important with very few and limited exceptions. How is the buyer going to raise a down-payment if they cannot even come up with a deposit today?
  • Make the monthly lease payment larger than going market rent conditions so that the buyer is financially motivated to proceed to closing. The excess amount over current market rates can be credited to the buyer at closing.
  • Use separate agreements for the purchase and for the lease. While each State has different laws on these issues, I will tell you that I require a purchase agreement (with an identified, future closing date) to be used for the purchase, and a standard lease agreement drawn by an attorney that is in compliance with the Landlord-Tenant Act for the lease portion of the transaction. It is important to have this lease agreement separate for the purchase agreement so that the seller knows his landlord remedy for buyer default.

Every Buyer Should Complete A full Seller-Approved Loan Application

The important difference between a traditional sale of a home and a sale through a lease-purchase agreement is that the seller and buyer are going to end up in a longer relationship through the lease purchase. One could even say that they will be forging a business arrangement for a period of time, and because of this I STRONGLY recommend that the seller take care and diligence when choosing the business partner to whom he will entrust his home for a period of time.

As an absolute minimum step, every buyer prospect should complete a full, Seller-approved loan application on a Fannie Mae Form 1003 (download Fannie Mae Form 1003 here). This is the form that banks require borrowers to fill out and it should be accompanied by a full, tri-merged credit report. The seller should have a crystal-clear understanding of whom he is about to enter a business agreement. The buyer should explain, in written details, why each discrepancy appears on this credit report.

Many Sellers Should Consider Using A Lease-Purchase Agreement

While I have surfaced many issues of caution when working with a lease-purchase contract, I still advocate their use in situations that require creative selling techniques. The key is to make sure that the seller does not get taken-advantage of due to a lack of experience or knowledge of the process. Select a licensed, experienced, REALTOR® in your area that has demonstrated an excellent grasp of the real estate business when you endeavor to sell a home.

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Joe Manausa, MBA is a 26 year veteran of real estate brokerage in Tallahassee, Florida and has owned and managed his own company since 1992. He is a daily blogger with content that focuses on real estate analytics and providing his clients with a tactical advantage in today's challenging market.

2 Responses to "What Sellers Should Know About Lease Purchase Agreements"

Hashanna Montalvo wrote: In a buyer’s market a lease/purchase is more beneficial to the seller. In a seller’s market a lease/purchase is more beneficial to a buyer.

Posted on Thursday, April 2nd, 2009 at 10:43am.

Joe Manausa wrote: That could be true in many cases Hashanna, but in reality a lease-purchase is beneficial to both parties when both agree to the terms.

For tax reasons, a lease-purchase can be very beneficial to a home seller who is selling an investment property, allowing them to defer gains over time, rather than take them right away. Whether a buyers' market or a sellers' market, sellers always like to save on tax dollars!

Posted on Thursday, April 2nd, 2009 at 10:45am.

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