Robert Bruss, Inman News
Published September 1, 2006

On a recent airline flight to Chicago, I sat next to a fascinating gentleman who told me he develops real estate, mostly condominium complexes. Then he told me condo sales (along with most housing sales) have recently slowed down.

I asked if he ever used lease options to sell his condos. To my surprise, he hasn't. So I mailed him some information that I hope he finds can get his unsold condos producing income.

As the housing market slows in most cities to what we called "normal" a few years ago, lease-option use is expected to become more widespread. There are always more lease-option buyers than there are sellers. As the national home sales market slows down, it will pay to understand lease-option pros and cons for use in the right situations.

What is a lease option? A real estate lease of a house, condominium or commercial property, which gives the tenant the option to buy the property, offers both the tenant and landlord many advantages. Much like a new car lease, the renter has the choice of buying the property or not by the end of the lease term.

However, a lease option is not the same as a lease purchase. With a lease purchase, the contract requires the tenant to buy the property, usually within a year or two. But a lease option doesn't force the tenant to buy.

Lease options work especially well when the local market has either an oversupply of house and condo rentals or an oversupply of houses and condos listed for sale.

A rent credit is key to a successful lease option. A rent credit means part of the tenant's rent applies to the down payment if the lease-option tenant elects to buy. Twenty percent to 33 percent rent credit is usually an adequate incentive to exercise the option. Thanks to the rent credit, the landlord can usually charge higher-than-normal market rent.

For example, suppose a house rents for $1,500 per month with a $500 per month rent credit. At the end of 12 months, the tenant will have built a $6,000 rent credit toward the purchase price.

As a landlord, I've given 33 percent to 100 percent in rent credits. The house on which I gave the 100 percent rent credit was in bad shape and I didn't have the funds then to fix it up. However, I had no problem finding a tenant who could fix it up at his expense during his one-year lease-option term. The result was he bought a house for essentially nothing down and I made a handsome profit on a fixer-upper home sale.

What are the advantages for renters? One lease-option tenant of mine who bought the house she was renting explained how she viewed the $1,500 per month rent she had been paying. She knew that was higher than market rent at the time, which she estimated at $1,000. Then she revealed the $500 per month rent credit was like a "forced savings account" toward the purchase price.

Besides rent credit, lease options have the following advantages:

The upfront "option money" is smaller than typical home purchase closing costs; the rent credit outweighs lack of mortgage interest and property tax deductions; the buyer can try out the house or condo before buying; the option purchase price is locked-in for the lease term; and the buyer can move in within a few days after signing the lease option.

How do you sell a condo or house with a lease option? Whether you are a home seller, builder or real estate agent, a lease-option sale is usually better than no sale. Lease options work in all price ranges.

The most effective newspaper classified ad headline format I've used says "$10,000 moves you in." Of course, change the amount up or down for your situation. Then describe the house or condo benefits, monthly rent and the vital words "Rent to own" or "Lease Option."

Advertised open houses on Saturday and Sunday usually provide fast results. Be prepared with at least 100 information-sheet flyers with an attached rental application form. To anticipate prospect questions, spell out the lease-option terms and benefits, including the option price and the rent credit.

Serious prospects should be expected to attach a $500 or $1,000 deposit check to their rental applications. Owners then can run credit checks on all lease-option applicants before selecting the best qualified.

If the property is listed for sale with a real estate agent, the agent should receive a leasing commission when the lease-option is signed, and the balance of a sales commission when the tenant exercises their purchase option.

Lease-option advantages for owners include income tax benefits, including depreciation deductions, until the option is exercised; upfront move-in cash from the tenant, which is the first month's rent and non-refundable option money; monthly rent cash flow instead of having a vacant house or condo; above-market rent; and lease-option tenants usually treat the property very well because they expect to someday own it. Also, there are usually more lease-option buyers than sellers.