In the past six years, I have managed over one hundred lease purchase transactions. With this experience, I have grown to really appreciate the power and effectiveness of this investment strategy. For those not familiar with a lease purchase, it’s essentially a lease with an agreement to purchase at some point in the future. You typically find lease purchase contracts on residential properties; usually with some amount of option consideration involved.
In most cases, a lease purchase is utilized because the buyer is not in an immediate position to finance a home, but would like to establish an option to buy at some future date. In the current economy, there are boatloads of people who don’t quite qualify for financing, but would like to be homeowners. A lease purchase can be the perfect tool to enable a potential buyer to move into a home while building his or her financial profile to purchase the property. With qualifying for conventional financing harder than ever,a lease purchase can be a simple and effective way to sell your property and help the want-to-be homeowner fulfill his dream of homeowership.
As an investor, structuring a lease purchase on your investment property can be a winning strategy for all concerned.
Here are five reasons why I personally like using lease purchases:
1.) A lease purchase can be a great short-term exit strategy. As many of my counterparts have discovered, flipping a property in the current real estate environment can be difficult and costly. Residential inventory levels remain high and with the flood of foreclosures continuing to hit the market, the competition is nearly overwhelming. While a lease purchase probably won’t close in 6 months like a potential retail flip, I’m comfortable waiting 12-24 months to sell the property if I can get full retail pricing. And another big plus, a lease purchase provides positive cash flow during the lease term, while a retail flip may sit vacant for months with the carrying costs eating away at potential profit.
2.) Tenants tend to take better care of your property in a lease purchase. I have found that most tenants look upon the home they occupy as essentially their own (or soon to be). It just makes sense that they take better care of the property when expecting to buy. One of the most frustrating aspects of being a landlord is the lack of care and respect given to a rental property by some tenants. It’s been my experience that most lease purchasers have a slightly better “homeowner” mindset and tend to treat the property with a little more TLC.
In line with this last thought, I usually structure my lease purchase contracts with the tenant being responsible for minor repairs. This is further motivation to care for the property while also saving the landlord (me!) money on future repairs.
3.) It’s easier to avoid real estate commissions with a lease purchase. Unlike a retail flip, I don’t typically list a property for lease purchase in the MLS. My approach is to place lease purchase tenants the same way I place rental tenants; using signs and internet advertising. Experience has proven to me that the lease purchase market is large enough to allow those interested to find your property without the use of a real estate agent. With the execution of the purchase, profits are maximized because there are no commissions and other concessions that most real estate agents ordinarily negotiate into the contract.
4.) I’d rather receive a down payment than a security deposit. Unlike a renter, a lease purchaser actually puts up a non-refundable down payment on the property that is not returned if the purchase does not happen. To be clear, the down payment is credited to the tenant if they follow through with the purchase. However, if the buy does not happen, the initial option money is forfeited. Even though I may be skeptical about a tenant’s ability to make the purchase within the term of the lease, I may still execute the contract because I am comfortable with the amount of option money received up front (which is typically much more than a security deposit). I know that in this scenario, the tenant will be that much more motivated to get financing within the term of the lease.
5.) A lease purchase can be a true “win-win” transaction for both the investor and the buyer. When structured fairly, a lease purchase can be a great path to homeownership for your tenant. The ability to lock in a purchase price (at today’s lower prices) and benefit from the monthly rent credit makes a lease purchase the next best thing to a conventional mortgage for the tenant. At the end of the day, if my tenant buys the home, I can feel good about making a great return on my investment, while at the same time helping my tenant achieve their goal of homeownership.
Using the lease purchase can be a safe and profitable strategy for investors, while playing a key role in the journey to homeownership for tenants. There’s nothing wrong with running a profitable real estate business and having an opportunity to positively impact others in the process.