Lease Option question on my 4000 sq ft SFR investment

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Lease Option question on my 4000 sq ft SFR investment

James Park
Real Estate Broker · Johns Creek, GA · Member since 2009 · 870 posts · 664 votes

I am currently in negotiations on my first investment property I had bought in 2006. I know it is a bad investment but i learned a lot through this mistake.

The home is located in a "B" neighborhood and I purchased the home new for $546,000 in June 2006.

The home rented out for 7 years to amazing tenants who took great care of the property. I just steam cleaned the carpet, touched up the paint and home looks like the way when i bought it new.

An agent wanted me to do a lease option which i have never done before. We negotiated and the terms we came to is:

$10,000 option, $2800.00 rent (market rent) for 18 months and option to sell at $500,000. The home is valued right around $460,000 today and my best guess is that the home will be worth $525,000 in 18 months. I wanted to a appraisal option, but the tenant tells me that the maximum he can qualify with is income ratio is $500k.

I understand that i will keep the $10k option if the tenant cannot purchase the property in 18 months, but what happens if the home appraises less than the agreed amount $500k? Can i make a stipulation that i can return the $10,000 option and void the contract?

Will it be okay to a put a stipulation where the tenants will responsible for all repairs on the home for the next 18 months since this is a lease option?

Everything month that the home is vacant, it is costing me $2300/month. The price of this home rebounded 20% from 12 months of ago.

I would appreciate any advice from the bigger pockets community. Do you think it is a wise decision to lease option this property?

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Wayne Brooks
Real Estate Professional · West Palm Beach, FL · Member since 2012 · 23k+ posts · 13k+ votes
12y

Brian knows much more about the L/O than I, but normally the $10k option money is Not refundable. If they can't buy due to Any issues on their part,, they lose the option money.

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  • Brian Gibbons
    Investor · Sherman Oaks, CA · Member since 2008 · 6k+ posts · 3k+ votes
    12y

    You cant have your cake and eat it too. Be a Landlord on a lease option.

    Straight option and lease, use a current appraisal as purchase price. Dodd Frank needs to be observed.

    You need to be a landlord and observed your states' laws. No tenant paying for repairs.

    You can look at other Seller Financing tools like contract for deed, wrap - aitd, and have the buyer go to a RMLO, pay like 10% down and sell at current appraisal.

    @Bill Gulley , take it from here.

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  • Wayne Brooks
    Real Estate Professional · West Palm Beach, FL · Member since 2012 · 23k+ posts · 13k+ votes
    12y

    Brian knows much more about the L/O than I, but normally the $10k option money is Not refundable. If they can't buy due to Any issues on their part,, they lose the option money.

    1Reply
  • James Park
    OP
    Real Estate Broker · Johns Creek, GA · Member since 2009 · 870 posts · 664 votes
    12y

    @Brian Gibbons

    So are you telling me that all lease options are today's value to be sold 12 months from now?

    If I believe that this home will appreciation 10% in 2014 and get back to my purchase price in 2006 of $546k by 2016, would it be foolish for me to lease option this home for 18 months?

    My original mortgage on this home in 2006 is $346k and my previous tenant had paid it down to $319k. This loan is 30 year fixed at 4.75%. I cannot qualify for this loan today.

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  • Brian Gibbons
    Investor · Sherman Oaks, CA · Member since 2008 · 6k+ posts · 3k+ votes
    12y

    You are basically underwater.

    I would lease it for market rent and offer a Contract for Option to Purchase. (CFO) If they finish the lease they can buy it at new appraisal. Create a Delayed Sale and Purchase Agreement. Hold it in escrow.

    Or use a ROFR (right of first refusal).

    Why would any sane person pay more than appraisal?

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  • James Park
    OP
    Real Estate Broker · Johns Creek, GA · Member since 2009 · 870 posts · 664 votes
    12y

    I offered the buyer agent the same, but they do not want to do this. Your plan was exactly what I wanted to do, but the buyer agent refused. They want to fix the price and i am not willing to sell for today's value as I know that the price will eventually get back to my purchase price in 2006.The buyer agent is more interested in her $15,000 commission on the back end than doing a 2 year lease for a co op fee. I am under water in the sense of purchase price, but not in terms of cash flow.

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  • Brian Gibbons
    Investor · Sherman Oaks, CA · Member since 2008 · 6k+ posts · 3k+ votes
    12y

    You are stuck amigo.

    Unless @Bill Gulley can think of something.

    And why would you risk your reputation selling something at $40,000 over market? U R a licensed broker?

    If your crystal ball is 10% over 18 months, offer the lease option with a purchase price at new appraisal in 18 months, but that is not a pure option, you need a set current price to be a pure option.

    And you risk that being a disguised sale per the IRS.

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  • James Park
    OP
    Real Estate Broker · Johns Creek, GA · Member since 2009 · 870 posts · 664 votes
    12y

    Thanks. I have another prospective tenant who wants to do a 2 year lease. I am leaning towards going that route and holding the property for two more years.

    Thanks for your advice.

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  • Bill Gulley
    Investor, Entrepreneur, Educator · Springfield, MO · Member since 2009 · 21k+ posts · 12k+ votes
    12y

    Well, that wouldn't be an option it's a purchase agreement so I wouldn't go there as an option contract.

    Options can not have contingencies of any kind, especially based on performance of the optionee/buyer.

    The reason you have an option price in an option is for the right to purchase at a stated value based on the valuation made at the time of the option. If you can actually assume that low interest loan (probably not, where did that pesky due on sale clause go?) special financing can be valued in an option if there is a right to assume it, it doesn't increase the property value (and I'm not explaining that again, so please, no remarks, it's been beat to death here).

    What you are selling in an option is the right to purchase at a valuation today. A buyer (especially in commercial) will ascertain a value based on fair market rents, appreciation, future depreciation, maintenance and market much like a purchase, the period over the option term is then discounted to its present value to reflect the value of an option. This is too much brain damage for residential properties, 10% of the purchase price is customary as an option price, being more you'll get into issues of a disguised sale so a tad less is better.

    What both of you are suggesting is trying to sell at an unknown future value, in that case now is not the time to do an option. Lease it for two years, give a first right of refusal to keep them there. Agree to contract in 18 months at the appraised value, when you do that, arbitration in the event of disagreements should be agreed to, such can be the average of two appraisals for example.

    I suggest, since you are a broker, you need to see your attorney to ensure this is a properly drawn agreement as you have more to lose and you'll be seen as the expert in the room if things go south. The buyer of a half million dollar home usually has funds for an attorney to protect their interests, so I'd suggest proceed correctly. :)

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  • Bill Gulley
    Investor, Entrepreneur, Educator · Springfield, MO · Member since 2009 · 21k+ posts · 12k+ votes
    12y
    Originally posted by @James Park:

    Thanks. I have another prospective tenant who wants to do a 2 year lease. I am leaning towards going that route and holding the property for two more years.

    Thanks for your advice.

    Now, that is spooky, you thanked me before I posted and mentioned what I suggested! You should be a very wealthy man James! :)

    0Reply
  • Brian Gibbons
    Investor · Sherman Oaks, CA · Member since 2008 · 6k+ posts · 3k+ votes
    12y
    Originally posted by @Bill Gulley:
    Originally posted by @James Park:

    Thanks. I have another prospective tenant who wants to do a 2 year lease. I am leaning towards going that route and holding the property for two more years.
    Thanks for your advice.

    Now, that is spooky, you thanked me before I posted and mentioned what I suggested! You should be a very wealthy man James! :)

    What Bill Gulley knows about financial instruments is spooky.

    Now if @Jon Holdman could get this thread over to Rent to Own - Lease Purchase http://www.biggerpockets.com/forums/83-rent-to-own-a-k-a-lease-purchase-lease-options

    0Reply
  • James Park
    OP
    Real Estate Broker · Johns Creek, GA · Member since 2009 · 870 posts · 664 votes
    12y

    Wow Bill! Thank you so much for explaining this. From what I am reading, it appears that it is much safer to find a good tenant who is interested in just a 2 year lease and potentially interested in purchasing the home from me down the line.

    In my case, the buyer agent' clients were okay with leasing from me for 2 years and doing an appraisal, but the their buyer agent really pushed the option contract on me when I told her many times that I have no interest in fixing the price. My guess is that the agent wants her 3% commission vs the rental co-op.

    Bill, I completely agree with you that doing a two year lease is the right way to go with the first right of refusal allowing to contract in 18 months at the appraised value.

    Thanks again.

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