Lease Options - Questions

6 Replies

I am copying/pasting questions from 2 BP users in an article regarding lease options. The questions were unanswered and they are excellent questions, would appreciate someone to shed some light on these

1. Do you tell the seller/landlord that you are an investor and will be “subletting” the lease-option to a buyer of yours? What percentage of sellers/leads will generally be okay with this type of transaction (assuming they are okay with the LO in the first place)?

2. How do you generally structure the option with the seller and your buyer? How long of an option time frame? How much option money do you pay to the seller (in option fee) and how much do you collect from the buyer? Etc…

3. Will you sign the lease-option with the seller before you have a buyer? Or do you like to have a buyer lined up first?

4. What happens if the buyer forfeits his option? Do you generally renew the option with the seller or just let it expire? Will you ever purchase the property and then flip it in these cases?

5. Who pays the home insurance during the lease option? Property tax? 

The reason why these are unanswered, in my opinion, is because everything you are asking is negotiable. It is as if the asking party thinks there is some set rule the way an option should be done. If I answer that I always pay $1,000, the asker might believe that only options with $1,000 payments can be done and therefore, the psychology of doing options becomes totally corrupted.

Personally, I've done an option with $20 as consideration. When I told one of my mentors about the deal, he suggested upping it to at least $100 because a court won't consider $20 enough consideration to create a valid contract. I then did a bunch for $100. I've also done them where I agree to pay HOA, payments, loan payments (I write these as 30 day renewable as long as I keep making the payments in a timely manner) and I've used a light rehab as consideration also. I think that deal cost me about $5K to rehab, but I had zero holding costs and made quite a bit on it when it closed. I don't recall exact numbers any longer.

Some of what you are talking about is referred to as a sandwich lease option. I don't think those are generally good deals to do. If your buyer decides to exercise the option and then your seller doesn't go through with it, you're probably in for at least one and potentially two very costly court cases. I'd steer clear of the sandwich lease scenario. The majority of my options were done on flip properties. I'd certainly like to do longer term ones and have a few in my SDIRA that are quite a few years old now.

So, to wrap up, I would tell my seller everything I intend to do including make a fortune on the deal. I wouldn't be doing it unless I was going to make a grip of money. I'd try to get as long an option period as possible. Want to go 25 years? Great, just sign right there. Consideration has to be considerable - don't pay them $20. An option is just that - an option. I'd get as many lined up as possible even if I had no buyers. Here is a way to structure it - first payment will start when Optionee locates a qualified occupant (or something along those lines).

Lastly, if you give an option to someone and they decide not to exercise it, (you said forfeit) I would give that person a part of their money back, but probably not all and you certainly don't have to give it the person all at once! You could make payments. Worst case scenario, you got a zero interest loan out of the deal.

Hope this helps. Now you can direct the other askers to this response and hopefully it will help them to stop asking loaded questions and instead get out there and tie up some properties with options.

@Saim Chaudhry    I think Account Closed  made some very good points. 

1) in this case you are talking about a sandwich LO....My sellers know upfront what we do, just as when I'm wholesaling a house they know what I'm doing.  If you try to deceive a seller or buyer for that matter you won't be in business long. 

2) little too vague on the first part, but as far as option consideration I pay $10.  Every deed I've pulled (probably 1000 plus) reflects $10 as consideration, so that's what I pay. What does the buyer pay?  On an assignment a 3% or 4% is standard, on a SLO most people will recommend asking the buyer "how much do you have"? which is a whole other subject

3) if you don't have a contract with the seller first, you are violating Occupational Code if you aren't an agent. 

4) depends on the situation

5) The owner does normally but if you are doing a SLO I'd use Evergreen note Servicing or someone similar to pay it. 

Originally posted by @Saim Chaudhry :

I am copying/pasting questions from 2 BP users in an article regarding lease options. The questions were unanswered and they are excellent questions, would appreciate someone to shed some light on these

1. Do you tell the seller/landlord that you are an investor and will be “subletting” the lease-option to a buyer of yours? What percentage of sellers/leads will generally be okay with this type of transaction (assuming they are okay with the LO in the first place)?

2. How do you generally structure the option with the seller and your buyer? How long of an option time frame? How much option money do you pay to the seller (in option fee) and how much do you collect from the buyer? Etc…

3. Will you sign the lease-option with the seller before you have a buyer? Or do you like to have a buyer lined up first?

4. What happens if the buyer forfeits his option? Do you generally renew the option with the seller or just let it expire? Will you ever purchase the property and then flip it in these cases?

5. Who pays the home insurance during the lease option? Property tax? 

Actually, these questions have been answered, parts many times on BP.

1. Yes, you need to disclose what you are doing. We can look to the right to sub-let, but ticking off a seller that needs t play along with your plan in the future isn't smart, so disclose.

1.a depends on the leads, how they were obtained, are they owners living in the property that listed 15 days ago or some out of town owner of a total wreck? Motivation of the seller is the key, if they aren't motivated, just want to sell, they might slam the door on you, highly motivated, you're a knight in shinning armor.

2. You do realize you have 3+ question in this one question? All of these have been answered before too.

a. L/Os need to be in two contracts, a lease and a separate option, there are financing reasons for this that have been covered too.

b. long enough that the buyer can perform, a 12 month option to someone who had bankruptcy last year would be predatory dealing as there isn't a cat's chance of getting a conventional loan to do the deal. The buyer needs to be qualified, able to purchase and not under some whiz bang hard money loan program they might be able to get, but obtain financing conventionally as other buyers do. Any lease-option greater than 3 years is a violation of the due on sale clause by statute. Any option over a year may be declared a violation as well, but, rarely enforced at a year, but be aware.

c. much written about this too. Generally, an option price is set as the down payment required, 10% is common for real buyers on short term contracts, exceeding that can cause tax issues of a disguised sale. 5% will generally keep a qualified buyer in the deal, going less it becomes just a cost of doing the deal to pull rents out of if they are an investor type buyer. The value of an option price is determined over the term as the present value of the expected increase in the market value, that is what you buy with an option, the right to but a property, say 3 years later, at a 3 year old price.

d.   consideration is paid to the optionor at the time the option is given. Just acknowledge receipt of amounts paid. You also need to see your tax accountant about option prices being earned as opposed to being paid.

3. Depends on the deal, if a homeowner lives in that property you should have a buyer in mind first to mess with them. Reason is, they can sue your tail off for screwing them around on some whizbang deal that never happens, it's not so much about you electing not to buy under an option as what you make them believe, if they end up getting a trashed rental back from you, you're on the hook. If you have some empty house, you'll have less liability involved, less risks, you can get a L/O and pay the lease and beat the bushes for 3 years if you want to.

You really need to understand what a Realtor does, they have this business down to an art so doing things bass ackwards just doesn't make since. They list properties and put them up on the MLS, in the public market.....can you do that? Some exceptions but usually not. Doing that means you spent days, probably, getting your option at a good price. Now you spend time and money trying to market it, usually, without buyers and just trying to beat the bushes, you will fail unless you have a long enough period and that means, more time involved, more in expenses as well. A Realtor who finds buyers has it pretty easy as far as the sales side, all the properties are on a list and they go see them, pick one out, done deal.

So, why would someone who values their time and money, go "list" a property that they can't really advertise for sale (they advertise the contract or option, but not the property since they don't own it) and beat the bushes looking for a buyer, then fail, then lose the option price paid, and walk away empty handed.????? Dumb!

Know your buyers, what they are looking for, find those properties, get a contract, now make some phone calls, show the place, sell your option or exercise your option after you have the buyer under contract. Easy! Saves time, money, less liability, less stress, chances of getting pie on your face for failing at what you tried to do and a better way to stay out of trouble.

4. Option not taken, it expires, the option price was paid for the right to purchase, that is now spent. I buy milk, I let it sit too long, over time it turns sour, it expires, I lose the benefit of have the milk and I can't take it back and get my money back as I'm the one who bought it and allowed it to expire.   Of course you can take the option and sell the property later, why get an option if your intention is let it sit there and sour?

5. Unless it is a commercial lease, the owner pays taxes and insurance. If you listen to gurus on tenants paying taxes, insurance and maintenance on a residential property, you can have a big mess tax wise and end of allowing a tenant to gain an equitable interest in the property, just don't go there.

Instead of trying to jumping in at the deep end of the pool, why don't you go to the shallow end where the real basics of real estate are taught, away from the sharky types in the deeper waters.  All of this is covered under basic transactions, tenant and ownership rights, interests conveyed, what constitutes an option, rights and obligations. Please start at the beginning and not try to figure out some whizbang operator's deal of the month. :)

Originally posted by @Bill Gulley :
Originally posted by @Saim Chaudhry:

...

So, why would someone who values their time and money, go "list" a property that they can't really advertise for sale (they advertise the contract or option, but not the property since they don't own it...

...Know your buyers, what they are looking for, find those properties, get a contract, now make some phone calls, show the place, sell your option or exercise your option after you have the buyer under contract. Easy! Saves time, money, less liability, less stress, chances of getting pie on your face for failing at what you tried to do and a better way to stay out of trouble.

...

Bill, I've learned this much so far but I've never seen an option for sale on a bandit sign or classified ad or anywhere. So I'm wondering how people sell options and/or leases 

Is it that they most investors just do it the wrong way and get away with it? And how do you legally show a property you don't own to sell an option and/or lease on it? Can you technically sell a lease or do you just transfer them to a buyer of your option(if you didn't SLO the tenant)

I actually only intend on possibly getting a lease option contract with a seller to eventually take over the property for myself but in the event the option is about to expire and I can't get financing I'd have to sell the option, so I'd also need to transfer the lease along with it. 

Thanks

Tons of Great and Valuable Points already provided.  Key Take Away --  It ALL Depends...

1) Assuming Seller IS interested in LO, then Yes, Of Course, you Should Disclose your plan to Sublet, assuming you're considering a Sandwich Lease Option.  Depending on your presentation and Terms, maybe the seller will accept a sublet, maybe not...

2) With Seller - Option for 2-5 yrs. with $100 - $1000 Option Fee, if possible. Otherwise no more than 3%.  With Buyer - Option for 12, 18, 24, or 30 months.  Option for a six-month or one year extension with increase purchase price and rent. Buyer Option Term at least 6-Months or a 1-Yr less than Seller Option Term.  Buyer Option Fee is 2.5% - 5% of Purchase Price (and applied to reduce purchase price upon execution of option) depending on credit and lease term.  Better Credit and Shorter Term = Lower Option Fee. 

3) Sign option with seller first, but maybe have a list of interested buyers ahead of time to market to once you have a property under contract.  Seller agreement allows for 30-90days of time to place Suitable Tenant or withdraw. 

4) Depending on the difference/gap between buyer/seller option - If Buyer forfeits you can place a new tenant (LO or standard rental), sell retail with double closing, buy the property yourself and handle it how you like afterward, or let the option expire with notice to seller that it won't be purchased. 

5) Home Owner (seller) is responsible for property insurance, property tax, property repairs that effect structure, mechanical systems, safety, habitability, etc, that would be major and typical landlord repairs, but basic maintenance/upkeep is on the tenant to cover, usually up to $500 per occurrence. 

Make Sure you are Fair, Reasonable, comfortable and can justify your agreements/actions, act in Good Faith, and comply with all the laws, policies of your area.... 

I see this over 2 year old thread was bumped, things have changed with options and this thread is not  current! Specifically about taxes, installment purchases, accounting for options with a term greater than 12 months. 

Leases and options are sold generally in commercial activities, it's not really a small operator's ploy.  There are specialized investors who buy and better yet, "finance" leases. Options can be sold as well, most common is with a commercial tenant who holds an option and sells to another tenant if the option was properly drafted. 

Look up the term "in the money" with options, that is when the option becomes an asset and marketable by the holder.

Again, you are in violation of tax law requiring any residential tenant to perform maintenance or make repairs, only a commercial tenant may do such things! Option or no option, doesn't matter. :)