Lease options acting similar to Sub 2?

10 Replies

Situation: Unoccupied brick triplex (3000 sq. ft) in blue collar area of town. Landlord is tired of being a landlord. Has a growing family and wants to sell for what he has left in his loan-$60,000. I am trying to craft a way to be able to control this property, fix it up a bit to force its appreciation, then seek a loan.

Rather than go to the bank for a loan for the triplex AND the refi, is it possible (assuming a willing owner) to lease option the building and have as much of the lease payment as possible (shoot for 100%!!!) be applied towards the purchase price? My improvements to the property would essentially be the option payment, which of course would add equity to the house for either the myself or for the seller. (in the very remote possibility that I chose not to exercise my option) After a bit of sprucing up and putting solid renters in the place, I estimate that the value of the property should exceed 100,000. After leasing the property for at least 6 months I should be able to apply for a conventional loan and have to put little (if any) additional money into the deal due to the forced appreciation.

To me, this solution would be similar to taking the property subject to but without the owner having to give up the deed to the property. Also, it would not evoke the due on sale clause because it is a lease. Of course, to protect my interest in the property I would have to record a memorandum of option on the property.

My questions: 1) Can lease options be a way to achieve similar results to a subject to in cases where sellers are motivated but are unwilling to risk giving up the deed?

2) Will filing a memorandum and lease optioning the property be equal to owning the property for the 6 month period that is required to re-fi a property?

3) Since this is an investor to investor deal, can I safely assume that Dodd Frank is not an issue?

Thanks! Any input is appreciated.

Your financing will be based on your purchase price not the value, assuming the value is greater than the purchase price, at the time of the purchase. If you do a sub2 now, or a purchase with an owner carry now, you could refi based on value at 6 or more likely 12 mo.s, whichever your lender allows.

IMO, a lease option doesn't accomplish what you need it to to do. You need ownership for probably for at least a year in order to refi. My take is that a seller not willing to give up the deed is not a motivated seller. Does the seller have tons of cash offers at $60K? If so, move on. If not, find what it takes to make him comfortable with your offer. Is there any room for a consideration payment to the seller? $1K or $3K for the deed? Can you show any financials and credit score to assure him you'll do what you say you can do. Can you make the terms 2 years or less so the seller can look forward to the mortgage being paid off. You'll want to get an authorization to release info and a power of attorney from the seller/borrower so you can manage payments and payoff to the lender. If that's a no go, consider using a mortgage servicer so the seller doesn't have to collect directly from you. Then set up something mutually agreeable with the seller to make sure you can check that the payment is being made each month.

Make sure you use title and escrow services so you know you are buying something that is free from other debts or title issues, and that the deed is executed properly. Best of success with it!

Never EVER lease option a junker that needs alot of work, you need to own it then repair it.

You may want to look at JV with a seller on a light rehab.

For instance:

Seller ARV is $200K needs $20K in work, no loans, free and clear.

You come in and get the $20K w a private lender, with jv agreement to resell ASAP.

You get private funds for $20K and pay Private Lender 2K in interest.

You buy it sub2 but make the guy a partner for a percentage of profit paid when it sells retail.

You make a minimum of $20K in profit.

Sign the listing agreement when you do the sub2 and JV agreement.

@J Scott

@Bill Gulley

may want to comment.

@Brian Gibbons: I know that most people lease option to obtain "pretty houses" that they eventually sell but what I am wondering if I can use the lease option to control a house that I want to keep as a buy and hold? (essentially, just get it off the market and lock in the price) I would like to fix it up, then actually purchase it at a later date. In this case, I plan to hold on to the property and use it as an upscale rental once rehabbed.

I have my eye on another rehab right now and I just don't want to have two big loans simultaneously.

Sub 2 sounds great (and worth a try!) but I was hoping that Lease Option with 100% of payments going towards the price of the home would accomplish the same goals in a more amiable manner for the seller AND we wouldn't have to worry about the due on sale clause.

@K.Marie Poe: My credit scores are excellent, a consideration payment would be an option also.

Originally posted by @Sandy Uhlmann :

My questions: 1) Can lease options be a way to achieve similar results to a subject to in cases where sellers are motivated but are unwilling to risk giving up the deed?

2) Will filing a memorandum and lease optioning the property be equal to owning the property for the 6 month period that is required to re-fi a property?

3) Since this is an investor to investor deal, can I safely assume that Dodd Frank is not an issue?

Thanks! Any input is appreciated.

Hi Sandy,

1. No, A Sub-2 puts you in title of ownership. A lease only gives you possession, an option gives you a contractual right to purchase but not the obligation and while the owner is contractually obligated to sell, there is a risk that a seller won't perform willingly or without difficulties, rare but I've been through difficult sellers. Your deal is short term, so I don't have many concerns, but people die, become incapacitated, get divorced, etc. these are delays that can happen that complicate the future sale.

No, not really. Filing notice basically scares off lenders and buyers, but an option will not stop a buyer from buying under the option price and a private lender could encumber title, I say private because no institutional lender would likely get involved. Giving public notice does not convey any ownership interest, it only shows you have an equitable interest in the property.

3. Dodd-Frank won't apply to the origination, it's commercial.

Neither a lease nor an option gives you the ability to make improvements without specifically addressing the issues, again, being commercial you can go there.

I'll be back, have to run. :)

@Sandy Uhlmann

How do you intend to hold the property, in an LLC or personally?

Are you wanting to cash out on the refinance later on? :)

I plan to hold it in an LLC. I was hoping that once I decide to actually make the purchase, the lender would essentially see it as a re-fi vs a primary loan (since I would have held the property for a period of time as part of the lease) and It would appraise at much higher than the price I bought it for thus giving me some added equity.

No, it's not a refi as you are not in title. An option is a purchase agreement that may or may not be exercised by the buyer.

If you design the agreement as an installment contract a lender will look at the deal as a refi and close the mortgage as a purchase. I suggest you speak to your end-loan lender to get their terms and requirements and then work backwards to your contract to meet those requirements.

Sandy, L/Os are not good arrangements really to "control" a property to make repairs and improvements to.

An option gives you no rights or authority to do work.

A lease can't convey rights or authority to make improvements in many cases, your building regs dept. most likely only issues building permits to owners in title or licensed contractors. You may have issues with material suppliers too. Unless you are a contractor you may have issues with insurance being a tenant, your insurable interest only extends to that financial interest you may have. The owner is at risk for workmen's comp matters as well as you in supervising work.

In Missouri as well as other states, an installment sale is more acceptable as far as holding an ownership interest, building permits are easily obtained as you can call yourself "an owner", you have an insurable interest for policies, material suppliers recognize your authority to encumber title with respect to liens in the event they aren't paid, the seller is released of liabilities as you will be considered the owner. In that position you will be seen as having the right to improve the property as well. Lenders won't be looking to fair market rents as they do with lease-options and adjusting your equity. This financing matter is made more difficult too, because:

If you do your L/O and credit payments your contract is agreed to based on the property condition when the agreement is made. You go in and improve the place. When you apply for financing down the road the appraiser comes in to appraise and if credits are involved the lender wants to know what the fair market rents are as of that date. Not only are FMRs established in the future market which may be higher but also to a much improved property. You'll be looking at a higher FMR that will reduce your credits allowed for financing purposes based to some extent on the repairs you made.

As to refinancing, the hard costs of your improvements will be considered as an equity achieved. Your labor won't be considered unless you meet seasoning requirements to work off of the appraised value and not the original cost plus improvements.

I replied to a recent thread, Contract-For-Deed Questions I think it was. I said these contracts have fallen out of favor with me arising from two matters dealing with executing deeds and circumventing foreclosure law together with Dodd-Frank if applicable.

That said, since Dodd-Frank is not applicable, a contract for deed would be preferable in your case as an installment purchase, the remaining deed issues can be addressed. Don't execute a quit claim deed as a deed-in-lieu-of-foreclosure which can be circumventing foreclosure laws. Incorporate the financing terms as a note in the contract but have your attorney use the terms of a deed of trust to the extent that the seller will have security interest in the property. Use an installment agreement that does not use a deed-in-lieu.

Best approach to acquiring a property to be improved is really buying with a Sub-2 transaction or a note and deed of trust taking title to the property. IMO this is really the way to go. I think if you really inform a seller as to the pitfalls of doing construction with a L/O or installment and show that the collateral will be improved, their safest way is to convey title. Foreclosure is not expensive nor time consuming in Missouri. The seller is really taking on less risk, especially when this will only be for a few months.

There were many construction/CFD folks that came to me to do deal as the buyer and seller and after talking to them explaining the deal (and with the note being serviced) both were more agreeable doing a note and DOT. Educate your seller.

If I can help you up there in Jeff City let me know. :)

@Bill Gulley

"Incorporate the financing terms as a note in the contract but have your attorney use the terms of a deed of trust to the extent that the seller will have security interest in the property. Use an installment agreement that does not use a deed-in-lieu."

Do you have a referral for an attorney that has help with sub2 deals?


Originally posted by @Brittani Gardner :
@Bill Gulley:

"Incorporate the financing terms as a note in the contract but have your attorney use the terms of a deed of trust to the extent that the seller will have security interest in the property. Use an installment agreement that does not use a deed-in-lieu."

Do you have a referral for an attorney that has help with sub2 deals?


Nope! My initial Sub-2 drafts were with my attorney who now may be representing angels in cloud rights as he passed away several years ago. These are still valid arrangements.

The quoted part above is in reference to a contract for deed, not a Sub-2.

Not speaking of politics as an opinion of one side or another, but your local political flavor absolutely influences the way the bench leans in any area, meaning that in very pro business areas that favor landlords for example, a deed in lieu of foreclosure will be looked upon through those glasses. In my area we are a very, very conservative pro business area and even at that, filing a deed in lieu under a land contract is seen as circumventing foreclosure laws, now consider your area in St. Louis, much more liberal thinking and consumer oriented. That means I'll bet that deed in lieu will be frowned upon more aggressively than it is here. So,

My suggestion is to get with an attorney who may incorporate the foreclosure path to be taken in the event of default rather than using a quit claim deed as a cure.

I don't like contracts that leave doors open. I won't do a CFD with a QCD, attempting to secure the property holding the door open for my QCD filing to be challenged or putting me at risk for doing an unlawful or wrongful foreclosure.

Terms of an installment sale can be made, a note can be made representing the equity financed based on the sale price, but that note needs to be secured in another way than requiring a buyer to agree in advance to giving a deed in lieu of foreclosure.

I think I mentioned, in most cases, in a default, when a borrower is presented with the facts of foreclosure and an option allowing them to do a DIL, in other words saying you would be agreeable rather than demanding a QCD, the owner will usually opt for the DIL.

If there is significant equity, I have worked out a cash for keys deal many times with a QCD to avoid foreclosure.

I mean, I have stood at the courthouse steps and sold properties, but I'd rather not. But, taking a DIL also has issues too, liens and title must be clear and if not, then it's foreclosure time.

While I like the CFD arrangement, when it boils down to it you might as well do a note and deed of trust. A Sub-2 might be a better solution than having your attorney to draft an installment deal with a twist from the norm. I'd likely take a DIL but I'd never require one as a cure for any default. :)

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