Female Real Estate agent offer home ownership and life insurance to young couple.

There are a variety of pitfalls associated with rent-to-own agreements, including the risk of losing your down payment money. (Getty Images)

If you're in the market for a new property, chances are you'll need to qualify for a mortgage. That can be far trickier than finding a home that you like – especially if you need to build or repair your credit. For this reason, you may be interested in a rent-to-own property.

With a rent-to-own contract, there is a two-step process: First, you'll rent a house with a standard lease agreement for a period of time, with some of your monthly payment going toward an eventual down payment. Then, once the lease expires, you'll have the option to purchase the property.

If you're contemplating going through the rent-to-own process, you'll need to tread carefully. There are a variety of pitfalls associated with rent-to-own agreements, including the risk of losing your down payment money if you aren't prepared to finance the rest of the property once the lease ends. You also want to make sure you're doing business with a reputable company or homeowner, rather than an unscrupulous seller.

Here's a primer on how rent-to-own deals work and potential risks to be wary of before you commit.

[Read: Renting vs. Buying a Home: Which Is Smarter?]

How Does a Rent-to-Own Arrangement Work?


In a rent-to-own contract, typically individual homeowners enter an agreement with a real estate company for three years, with the option to extend a lease contract for four additional years.

"A rent-to-own contract will detail several things: your rent payment, (the) length of your lease, what you need to do to buy the home, the time you have to buy the home, how much you will pay for the home, potential rent credits and an option fee, which may be named something else," says Misty Weaver, a realtor in Chantilly, Virginia.


RELATED CONTENT

RELATED CONTENT

When Does It Pay to Rent, Even When the Numbers Say It’s Cheaper to Buy?

Buying a home may not be wise if your life is in flux or dealing with repairs frightens you.


The option fee, which is often between 2.5 percent and 7 percent of the purchase price of the home and is required before you move in, may be referred to as option money or option consideration. "An option fee is usually negotiated in order to show that you are serious about buying the home with a traditional loan within a certain number of years," Weaver says.

Regardless of the number of years you're planning to rent, part of your monthly payment (say, 20 percent) will go toward your down payment. And keep in mind, the rest of your monthly payment will likely be above the average rent in your market. After two or more years, you'll have accrued the amount you'll need for a down payment – or part of the necessary amount.

The principle with rent-to-own agreements is having at least some money put toward a down payment when the lease ends, with the goal of either paying the rest when the contract expires or extending the contract.

[Read: If You Can Afford to Buy a Home, Why Are You Still Renting?]

The Benefits of a Lease Option vs. Lease Purchase


You'll want to be careful before signing a rent-to-own contract, and ideally have a real estate attorney involved and discuss any of the fine print. In fact, you should involve two lawyers, says Brenda Di Bari, a commercial broker with Halstead Real Estate in New York City. "It is crucial that an attorney prepare the contract and that the buyer have that contract reviewed by an independent attorney to be certain their interests are protected," Di Bari says.

For instance, some of the things a contract should address is whether a renter is entering a lease-option or a lease-purchase agreement. With a lease-option contract, you don't have to buy the house when the lease is up and you can walk away after the lease ends. But there is a snag: With a lease-option arrangement, you typically won't get the money put toward a down payment back. Conversely, with a lease-purchase contract, at the end of the lease, you are legally obligated to buy the house.

Another thing to look for in the contract: if the option fee is included as part of the down payment. According to Weaver, many times the fee is not included.

Where to Find a Rent-to-Own Company


There are a number of rent-to-own companies that specialize in rent-to-own arrangements, including Home Partners of America, which has rent-to-own homes in 20 states, and Verbhouse, which covers homes in San Francisco. If you're interested in purchasing a home with a rent-to-own contract, perhaps because you don't have much money for a down payment or have shaky credit and want a few years to boost your finances, you should alert your real estate agent. It's a common agreement for prospective homebuyers, and your agent may be able to find home sellers who are interested in doing a rent-to-own sale.

Do Your Research


Remember, the rent-to-own process can be fraught with peril. Di Bari points out that if you lose your job while renting your home and you can't make a monthly payment, you could – if the contract is worded in the seller's favor – lose the down payment money you've provided. You could even be evicted.

Think of it this way: If you have a good, well-paying job, but you haven't raised the money for a down payment or you could use a few more years to build your credit, you may be an ideal candidate for a rent-to-own home agreement. And if you're a prospective buyer looking to get approved for a mortgage in an expensive area and you want to bolster your credit by building equity, a rent-to-own agreement could be an ideal choice. But if you have poor credit and live paycheck to paycheck, a rent-to-own contract can be a risky proposition.

Other questions Di Bari suggests prospective homebuyers ask include: "What if the market dips and you're locked into a purchase price that is no longer advantageous? Or (what if) the home will no longer appraise for a high enough amount to get your mortgage?"

[See: 10 Ways Millennials Are Changing Homebuying.]

Before you sign a rent-to-own contract, consider getting a home inspection and getting the house appraised. You should also make it clear in the contract that any property taxes due on the home while you're renting are the responsibility of the owner.

Also keep in mind that the contract will need to indicate who is responsible for maintenance and repairs, Di Bari adds. That last point is important. After all, if you fix the plumbing and patch a hole in your roof while renting the property and things don't go the way you plan, you may inadvertently be making your home nicer – for the next tenant.


9 Details That Signal a Home Is a Good Buy

Are these must-haves on your list?

(Getty Images)

One of the first steps you take when deciding you want a new home is determining what you need in order to be happy there. The list of your must-haves can get long, and you reasonably can’t expect to find a house that perfectly matches all your criteria. “Someone has a list of 10 things – if they can find a house that has seven or eight of those, they’re doing pretty good,” says Jeff Plotkin, a Texas-licensed Realtor, attorney, certified public accountant and vice president of Habitat Hunters Inc. in Austin, Texas. Deciding what needs win out in your next home search can be tough, but there are a few key features and amenities many buyers seem unwilling to live without.

Right in your price range

Right in your price range

House keys on dollar

(Getty Images)

Being able to afford your new home is a given, but buyers are often faced with having to choose between stretching their budget to have the master suite they want or having more reasonable monthly mortgage payments. Price often wins out in the end – you’re less likely to enjoy that master suite if you’re eating soup and foregoing vacations for the next five to 10 years to pay it off. In the 2018 National Association of Realtors Home Buyer and Seller Generational Trends report, home affordability was one of the three most important factors for respondents who recently purchased a home – behind only quality of the neighborhood and a location's convenience to work.

In your preferred location

In your preferred location

Walking the dog in a neighborhood in Austin, Texas

(Getty Images)

Homebuyers care a lot about being able to get from point A to point B – as well as points C, D and E. Your future neighborhood can dictate what school your kids go to, how long it takes to get to work and how easy it is to stop at the grocery store when you forgot an ingredient for dinner. Plotkin says buyers put a lot of stress on where the house is, rather than what’s in the house itself. They’re looking for “proximity to schools, shopping, entertainment, public transportation,” he says.

Interior over curb appeal

Interior over curb appeal

Modern living room and kitchen in stylish apartment

(Getty Images)

A handsome exterior keeps potential buyers from quickly driving away, but insight from new construction marketing site HomLuv.com reveals that it’s the interior that most often serves as the deal-maker. HomLuv’s website allows homebuyers to begin their search for a new home from the room they care about most, whether that’s the kitchen, living room or master bathroom. The one part of the house people don’t seem too worried about? Outside. In the roughly two months since HomLuv launched, “no one has chosen to look at exteriors first,” says Mark Law, vice president of product management for BDX, a home builder marketing company and parent company of HomLuv.

The right number of bedrooms

The right number of bedrooms

White luxury bedroom interior

(Getty Images)

While the interior of the home allows more wiggle room to compromise on your needs, there are some details that buyers must have. The right number of bedrooms would be the big one. Family expansion is often a primary reason homeowners start looking for a new house, so leaving out that extra room would defeat the entire purpose of the sale. According to the NAR report, 85 percent of homes purchased by respondents in 2017 had three bedrooms or more.

Window treatments for reference

Window treatments for reference

Window

(Getty Images)

Staging matters in a home. As much as we think we can picture how a vacant house will look with our own furnishings and decor, at the end of the day we need some suggestions. Law says builders will include big picture windows in bedrooms or over the tub in a master bathroom to let in natural light, but if the photos show the space without curtains or blinds, house hunters will inevitably see a design flaw. “They’ll say, ‘I’m not an exhibitionist,’” he explains. To avoid turning homebuyers off, window treatments should be included in listing photos and for home tours.

Move-in ready

Move-in ready

Moving boxes surrounding family relaxing on sofa

(Getty Images)

The condition of the home you shop for often goes hand in hand with your budget and the neighborhood you hope to live in. If your budget is at the lower end of the price range in the hottest community in town, you’ll likely find yourself buying a house that needs a little love. If your budget doesn’t restrict it, chances are you’ll have your pick of properties that have been turned by real estate investors. “The [buyer] demand is for 100 percent move-in ready condition,” says Bobby Montagne, CEO of Walnut Street Finance, a private money lender focused on home flipping in markets in Virginia, North Carolina and the District of Columbia metro area.

Possible to picture your vision

Possible to picture your vision

the modern living room interior.3d design concept

(Getty Images)

Even if you’re one of the detractors who prefers a fixer-upper, it’s still necessary to be able to envision how the space will look once you’ve added your personal touches. Based on reactions from HomLuv users, details as small as the cabinet color in a photo can change the way a person thinks about a house. Law says he’s found preferences differ from region to region – darker cabinets may see more love in the South, while in California the preference is for white kitchen cabinets. “You could offer a free puppy and free pots and pans with the house, but if the cabinets are dark they still don’t want it,” he says.

Warranty available

Warranty available

Female realtor discussing documents with couple

(Getty Images)

For newly built homes and those that have been recently flipped with significant work, you want to know that the professionals involved stand by their work. New construction homes often come with a warranty from the builder or the option to get a third-party warranty, and you should ask the investors involved with a flip for the same level of protection. “A good builder [or] a good flipper does not have a problem with that,” Montagne says. If an issue arises within the life of the warranty related to the workmanship, you can rest easy knowing you’re covered financially for the repairs.

Potential for value growth

Potential for value growth

A row of houses in a suburban American neighborhood

(Getty Images)

Your home isn’t just where you’ll live – it’s also an investment. There are a few easy decisions you can make that reduce the chances of losing out on potential growth in value over time, whether that means buying in a neighborhood where home values are steadily growing, finding a home in a desirable school district or avoiding living next to a strip mall. “When you’re buying a house, you’re not only buying it for yourself, you’re buying it for resale,” Plotkin says. “So most people are not going to want to back up to commercial [property] or a busy road.”

Read More

Tags: housing, housing market, home prices, new home sales, money


Geoff Williams has been a contributor to U.S. News and World Report since 2013, writing about a variety of personal finance topics, from insurance and spending strategies to small business and tax-filing tips.

Williams got his start working in entertainment reporting in 1993, as an associate editor at "BOP," a teen entertainment magazine, and freelancing for publications, including Entertainment Weekly. He later moved to Ohio and worked for several years as a part-time features reporter at The Cincinnati Post and continued freelancing. His articles have been featured in outlets such as Life magazine, Ladies’ Home Journal, Cincinnati Magazine and Ohio Magazine.

For the past 15 years, Williams has specialized in personal finance and small business issues. His articles on personal finance and business have appeared in CNNMoney.com, The Washington Post, Entrepreneur Magazine, Forbes.com and American Express OPEN Forum. Williams is also the author of several books, including "Washed Away: How the Great Flood of 1913, America's Most Widespread Natural Disaster, Terrorized a Nation and Changed It Forever" and "C.C. Pyle's Amazing Foot Race: The True Story of the 1928 Coast-to-Coast Run Across America"

Born in Columbus, Ohio, Williams lives in Loveland, Ohio, with his two teenage daughters and is a graduate of Indiana University. To learn more about Geoff Williams, you can connect with him on LinkedIn or follow his Twitter page.

Recommended Articles

What Is a BPO in Real Estate?

Devon Thorsby | March 20, 2019

Here's what to know about a broker price opinion, how it's calculated and if you should get one.

Are You Ready To Buy a Home?

Wendy Arriz | March 19, 2019

For the millennial generation, homeownership can still be intimidating. Here's what you should consider before making an offer.

Decorate Your Apartment on the Cheap

Devon Thorsby | March 15, 2019

A short lease doesn't mean you can't make your apartment feel like home.

What Data Points Tell You About Housing

Dima Williams | March 14, 2019

From home prices and sales to construction and mortgage rates, these are the real estate gauges to watch.

The Best Places to Live in California

Devon Thorsby | March 13, 2019

See how 12 metro areas in California compare to each other.

Finding the Wow Factor in a Home

Steven Gottlieb | March 12, 2019

Which special qualities in a home will have you making an offer, and why you may need to compromise on other details to get them.

Design Trends to Look Out for in 2019

Devon Thorsby | March 8, 2019

Which decor fads are on their way in, and which ones should you ditch in the coming year?

Why You Should Sell Your Home in 2019

Devon Thorsby | March 7, 2019

Housing markets may not be as hot as previous years, but selling now could be your best bet.

Best Places to Live in South Carolina

Devon Thorsby | March 6, 2019

See how the largest metro areas in the Palmetto State measure up.

Finding Comparable Neighborhoods

Lisa Larson | March 5, 2019

It's possible to find a neighborhood that checks off your wish list without breaking your budget.

How Companies Change a Housing Market

Sally Forster Jones | March 4, 2019

New office campuses bring soaring prices and low housing inventory, but that's just the start.

Difference Between Real Estate Titles

Devon Thorsby | March 1, 2019

How to decipher a real estate pro's title – and decide whether it makes a difference when hiring one.

The Best Places to Live Near the Beach

Devon Thorsby | Feb. 28, 2019

Find out which places offer the most access to the ocean, sand and sunshine.

Red Flags to Help You Spot a Rental Scam

Devon Thorsby | Feb. 22, 2019

Avoid falling victim to online rental scams by knowing the most common tricks.

How Do I Find My Property Lines?

Devon Thorsby | Feb. 21, 2019

The best ways for homeowners to determine the exact boundaries of the lot their house sits on.

4 Home Devices Your Dog Needs

Sally Forster Jones | Feb. 21, 2019

Take advantage of new technologies you can incorporate into your home to benefit your family’s furry friends.

What to Know: Tenant Rights in Texas

Devon Thorsby | Feb. 15, 2019

Here's how renters in Texas fare when facing a dispute with their landlord.

Measuring Your Home's Square Footage

Devon Thorsby | Feb. 13, 2019

Know exactly how big your house is, and maximize the way you use it.

5 Travel-Inspired Home Decorating Ideas

Sally Forster Jones | Feb. 12, 2019

Transform your home's interior with a few simple projects that highlight the time you've spent in other parts of the world.

What to Know About a Pending Home Sale

Devon Thorsby | Feb. 8, 2019

As the buyer, seller or interested outside party, here's what you need to do while a real estate deal is pending.