How to go about doing a sandwich lease option for a newbie

10 Replies

Hello all! I am currently living in Miami, but I'm from Kansas City. I found a decent lease option in KC that would be $600 monthly. This house would rent for about $800-900 monthly (based on Redfin, Trulia, & Realtor info). Not the greatest neighborhood, but I grew up in a similar neighborhood and know what that entails. I would like to lease option this home to someone else or just rent it out. How would I structure this deal? Would I be responsible for repairs, cosmetic and/or more at the beginning?? 

Thanks for all you guys' help! 

@Maria Mendoza , hello to a former Missourian from a current Missourian (Springfield)!

What you're describing is a somewhat specialized area of REI know as rent arbitrage. In short: you rent a place for $X and then turn around and rent it out to someone else for $X + $Y, pocketing the difference. Seems simple and easy to get started when one has little or no money, but as I am about to demonstrate, there's a reason why not many people use this strategy.

To be sure we're setting you up for success I have a few questions.

1) Why would you prefer to L/O vs. traditional buy, hold and rent?

2) What experience/knowledge do you have with the RSMO for land lord/tenant law?

3) How do you plan on managing this property: self or via a PM?

4) How knowledgeable are you with CURRENT rents in KC?

The reason I ask is there are a lot of reasons why one might think that a spread of $200-$300 per month is too tempting to pass up, but with that better than normal spread on a sub-$1000/month unit may come a host of issues.

I have a sis-in-law who lives in KC and until recently was renting a 2-bed SFH in an "okay" hood. She paid around $1,400 / month. Based on that, I'm really struggling to get my mind around what a $600/month lease option home would look like in that market.

Also, if it's renting for $600, how do you plan on renting it for $800-$900? Do you think the owner/Seller is simply ignorant of the "true" value or will you be assuming duties and responsibilities that normally would be the LL's in exchange for discounted rent? Most L/O deals put some or all of the repair/maintenance burdens on the tenant/optionee. That will quickly devour and $200-$300 "profit", especially if a major system like a central furnace goes out.

Long-distance LLing is tough, and most who do so successfully hire a PM, who will take a minimum of 1/2 month rent to find a tenant AND will require 10% of the monthly rent. Many PMs won't mess with low quality houses. They want Class A or at minimum Class B. Think about it: if you were a successful PM, would you want to waste your time on a beginning LL who doesn't even own the house...all for a meager $80-$90 a month? They would have to go thru you to your L/O seller each time a repair over the maximum authorized threshold. Also, would they be willing to go and inspect your property 2-3 times per year to see if the tenants are cooking meth or have 10 friends living with them, all for such a small fee? Many good PMs want an investor with a portfolio of many units: it takes as much time and effort to communicate and send out monthly statements for an investor with 1 house as one with 20 houses. A single house often won't tempt them, unless the rents are very high and they will make some good money for doing it. So you'll be self-managing is my guess. How will you keep eyes on the property that is 20 hours away?

I'm not saying you can't successfully L/O low-end, long distance houses using arbitrage but it is HARD. Even if your rent spread is accurate, I'm not sure it's worth the risk especially going in for the first time. I'd consider investing locally in something you can keep your eyes on and learn the ropes before diving into a very specialized niche of REI.

Best wishes!

Hey, @Maria Mendoza , what's the scoop on your deal?  The folks here might be able to give you some solid input...  Creative finance types of deals can be solid but it's important the evaluate them properly and do your due diligence.  :)

@Maria Mendoza

typically, lease options will put you in charge of repairs/maintenance. Unless of course you pass that to whoever you rent to. If you're paying $600 and getting $800, that doesn't leave much for any repairs or maintenance that comes up.

I only see this being profitable if you're able to get in for like $0 down and charge the people you lease option to a hefty down payment of $5k or more for you to put away for repairs/maintenance. And you don't live in the area, would this be your first deal? Have you seen it in person?

Hi  @Erik W. ! Thanks so much! You gave me a lot to think about. I thought about going this route mainly b/c of my lack of funds to do a traditional buy & hold. I would mainly self manage with the help of a family member in KC. I research KC home prices and rents a lot. I know what I'm used to having lived (rented and bought) in KC for so long, but I noticed in the past couple of years prices have been increasing. The areas that rent for less than $800 for 2 or 3 bedrooms are definitely inner-city, moderate/high crime areas. Can I ask what is RSMO?? My fear is definitely what you stated: a major ticket item like a furnace or roof needing repair. The homes in those neighborhoods are always older. I was looking for something similar in close to me in Miami, FL, but it's sooooooo expensive here in South Florida! :-( 

Definitely lol! I want to make sure I've covered all bases @Luther Wilson III . :-) 

@Rita Medeiros That sounds great! I'm about to search this event! Thanks! 

Hi @Grant Rothenburger I was thinking that would be the best way to go about it on the Tenent/Buyer side. Requiring a nice down payment to hold for repairs. The seller is asking for $600 down and $600 monthly. I haven't seen it in person, I definitely plan to myself as well as sending family in the area to look as well. I have a family member who's a licensed contractor and does a lot of remodels, home additions etc.  It would make it hard not being close to it. :-( 

Lots of bad information on here.

You will just be a renter with an option to buy.  Major ticket items will still be the responsibility of the owner/landlord.  Most Optionees opt to take care of the 1st $150 or so of maintenance or repair issues that come up to help convince the seller/LL to allow the LO but it's not required.

Your risk is having the responsibility for your tenant buyer. When they don't pay rent or damage the house after failing to exercise the option. that's on you. As is the option consideration you pay up front. 

SLOs are an advanced strategy for the well-informed and well-capitalized, best for a property you can keep an eye on in your backyard.   Keep saving and keep learning!

@Maria Mendoza , RSMO is Revised Statutes of Missouri.  A.k.a. "State Law".  I'm a little concerned if you don't know what the laws are that Govern LL/Tenant relationships.  If you do know and just forgot the abbreviation, then no worries.  But the bottom line is you need to look them up online and print them off.  Study them diligently.  You need to know them 5x better than your tenants do, and believe me, some tenants know the laws and 'the system' better than a lot of land lords.

You said you studied the rents, which I believe, but you didn't tell me how you're planning to rent a place for $600 then turn around and rent it 'as is' to someone else for $200 - $300 more. Is the person you're wanting to L/O from a fool, ignorant, or both to give you such a "cheap" deal when the market you studied says he could do much better? Or are your numbers only taking into account the good and ignoring the bad? Convince me you have a viable strategy that will make this work.

I have several other areas of concern with sandwich leases & L/Os, but lets see if this deal is even a real starter before getting into those.

@Maria Mendoza

Here's what I'd be really concerned about before making a purchasing decision:

1.  Where is the property is really located?

2.  Who's offering up this deal?

3.  What's the repair estimate?

4.  Will they sign the deed over to you and carry the financing for you thus giving you more control?

5.  Is there an underlying mortgage on the property?

6.  Why are they selling the property?

7.  What is the option price and other lease option terms?  (interest rate, term, other stipulations, etc.)

8. How did they arrive at their asking price?

9.  Will they take less than $600/mth?

10.  What all would you be responsible for?  (maintenance & upkeep, insurance & taxes).  The owner needs to show you that they have insurance on the property...

Most cats here in the KC market don't know squat about lease options, owner finance deals or creative financing...  And even fewer have any real experience doing them.

I'd be super cautious about what they're offering.  If they're asking too much on the price or have some type of absurd balloon payment then I'd walk walk away real quick!  ;)