How to structure a lease option to potential buyer

4 Replies

Hi BP members,

I am doing research on ways to maximize my return on a 3 family I purchase this past year. I've read a little about lease options and am looking for some members who may have had experience structuring these deals to prospective (tenants/buyers).

Would you say this was a wise investment decision?

Factors that influenced this thinking:

. Limited supply in my area of affordable 3 family homes

.Potential risk that tenant/buyer would default and therefore I may be able to keep the seller concessions that I was planning to put aside in order to credit back to them when they were to exercise the option.

What formulas/ data driven analyses should I be considering?

@Timothy Woodland Selling a multi unit with a lease purchase is plausible but not the most practical. This type of exit strategy makes the most sense with Single Family Residence where you are only dealing with one primary resident who will eventually get financed and close. However, I did briefly considered doing this with a 3 unit of mine and I decided not to. Here are the factors that I weighed:

Only 1 of the 3 tenant groups will be participating in the lease purchase agreement. The other two tenants will still be traditional renters because you can only sell to the one. This essentially makes that tenant a glorified property manager. This is great for a SFR because it means that I don't have to do any maintenance to the home but with a multi-unit you are essentially letting the tenant with the lease purchase agreement be responsible for repairs, maintenance and collecting rent for their future property. I suppose you could keep responsibility for all those duties but that takes away one of the biggest benefits of a lease purchase which is hands off land-lording. I found that all the tenants that I considered doing this with were not capable of carrying out property management duties or I did not trust them to. For that reason I decided to keep my multi-units as traditional rentals and my only my SFR as lease purchases. I have had several maintenance and rent payment issues arise with the multi-units that made me glad to have made this decisions because I am able to handle them in a way that protects my property and minimizes turnover. The other benefit is that I have been able to keep a larger portion of the profit rather than giving some of it away to a tenant with a lease purchase arrangement.

The only way that I would ever agree to a LP deal on a multi-unit is if it was with a fellow investor with trusted property management experience or with a trusted tenant with property management experience who was looking to house hack. So far I have found neither of those therefore I continue to keep multi-units and SFR LP arrangements in two separate categories of my investing portfolio. 

@Nathan Weaver --- Great Stuff!  I'm researching this from the Buy/Lease side but you sparked a couple of questions...

"I have had several maintenance and rent payment issues arise with the multi-units that made me glad to have made this decisions because I am able to handle them in a way that protects my property and minimizes turnover."

Were you collecting payments differently on the multi-unit than you do on SFRs? The same question about maintenance? What type of language was in your agreement about those 2 topics?  

If rent wasn't paid or maintenance wasn't maintained wouldn't that be a default?

It sounds like you have experience doing this with SFR though. Do you have any standard terms that you offer? Would love to hear what has worked for you.

@Jasen Koebler All my SFR have a "tenant/buyer" with a Lease Option agreement. They act much different than rental tenants for a few reasons. They have a large option deposit (skin in the game) which makes them very motivated to pay rent on time and maintain the property because as you said neglecting either of those components of the LO agreement would jeopardize their tenancy and their non-refundable option deposit or consideration (NROD or NROC). My SFR LO tenant/buyers are more serious about letting me help them become home-owners and for that reason they are for the most part very easy to work with and rely on. And yes, I do have very detailed language about their responsibilities as a tenant/buyer. I also tell them, "If you want to own this house eventually then I want you to treat it like it is already yours." This is way they rarely default.

Multi-units have typical rental tenants (Not LO tenant/buyers for the reasons I mentioned in my previous post) and they come along with all the typical landlord issues. This is why this is not a majority of what I do. In fact, the only reason I have them is because the seller wanted to get rid of it, she knew I could get the financing quickly, so she lowered the price considerably, and I did the numbers and could not justify turning away the large amount of passive income even if it is more of a headache than my more comfortable LO wheelhouse. This is also the reason that I keep the property management in house. I am able to handle tenant and maintenance issues in a more efficient and productive way.

Did that answer your question?

@Nathan Weaver - Yes, for the most part.  Thanks.  But I have a follow up question.

What type of financing did you get in this multi-unit scenario? Or did I misunderstand your scenario and you only do multi-units when you can finance and LO on your existing SFR?

To clarify - I'm looking into LO as a Lessee Occupied in 1 unit until I can get conventional financing.

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