Before the market crash of eight years ago, rent to own or owner finance buyers were relatively rare; it was fairly easy for most people to qualify for a conventional or FHA home loan.
The market crash changed all that. Credit standards tightened, people’s credit took a nose dive, and savings accounts were depleted as millions lost their jobs.
Today, it is much easier to get a home loan, but there are still people whose credit scores are too low to secure traditional financing. That is where a rent to own loan can be useful.
A rent to own contract mandates that the renter and prospective buyer pays rent to the owner each month, and part of it is going towards buying the home later. The contract could last anywhere from two to five years. At that time, both parties will start the home purchase process.
This type of transaction can benefit renters because it means that you will eventually in a few years’ time actually own the home you are in.
It also can benefit sellers if they are having difficulty selling their home at their desired price. They can get the mortgage paid from your renter, and know that in two or five years, you will have the house sold.
On the renter’s side, you need to make sure that when the rental period has expired, you are going to be able to qualify for a traditional mortgage. This means that you need to increase your credit score as quickly as you can if you want a rent to own mortgage with the lowest interest rate.
Pro’s and Con’s of Rent Own Loan Programs
For buyers, you have the ability to try out the neighborhood for a few years, and to build up your credit and down payment.
Also, you can lock in the price, and the terms early one. This could allow you to buy the property under market value in a few years.
Note that the buyer will need to negotiate with the landlord and the mortgage company about how much of your payment goes towards the down payment and closing costs.
You might for example pay a rent of $1,750 per month, and pay an additional $250 per month to buy the home. After three years, you would have $9000 available for down payment and closing costs. That money would be set aside to be used when you go to closing.
However, note that if you decide to not buy the home, you may be out all of that money. Usually, a rent to own contract stipulates that the money only goes back to you if you buy the home.
On the seller side, a benefit of a rent to own contract is that you have a long term tenant who will become a first time home buyer. It is likely that the tenant will take better care of the property than a regular renter.
There is a risk that the renter will decide not to buy the home, but you will be able to take the money that they saved and use it as you see fit.
The seller also could have a disadvantage in that the locked in price could be well below market value in three or five years’ time.
What Should Be In the Contract
Every rent to own contract is different. It is a good idea for buyers and sellers to get advice from a real estate attorney before engaging in this type of contract.
Buyers also should talk to mortgage lenders before they sign a rent to own agreement. It is important to be sure that you will be able to qualify for a loan at the end of the term. Many rent to own agreements have been torpedoed because the buyer cannot qualify for a first time home loan at the end of the rental period. And that money that was put aside normally is forfeited.
Buyers also should get a home appraisal and a home inspection to ensure that they are not buying a lemon. Also, have a title company check the title on the home to make sure there are no problems with it.
Another possibility to consider is to set up an owner finance contract with the home owner. This is where you agree to buy the home from the seller on terms. It is just like getting a rent to own mortgage, but the seller is providing the mortgage lien in this case. This is a good option for people who want to stop paying rent but do not have the credit currently to buy their own home.
An owner financed loan or contract will have a high interest rate of 9% or 10%, but this is a good option for getting into your home own. After you have improved your credit, you then can qualify for a traditional mortgage at a competitive interest rate.