Hi BPers! In a lease option deal, is it common to put in a contingency clause that would protect the property owner from a major recession? For example, if the lease option was signed with a purchase price of $400,000, but in two years, the property value dropped to $300,000, how can the seller be protected.
@Cody Richard it can't protect the seller. Only way would be a sale now. The option consideration gives the the buyer the choice to buy or not. If the price drops the buyers will not exercise their option. Conversely if the price climbs 40% the seller still has to sell at the agreed price and doesn't get any of the appreciation.
This might not be the answer you're looking for as it probably isn't the definition of protection you are seeking, but you're "protected" in a couple ways. If the value drops significantly, you have no obligation to sell the property to the tenant buyer at the new value (as long as you've placed an actual dollar amount as your purchase price as opposed to "the appraised value"), so you don't take a hit. They may still exercise their option at $400k (unlikely), or they walk in which case you still have the option fee from the initial transaction and you start the process over again with new tenant buyers. If you need to wait out the storm until the value of the home improves once again to a price point you're satisfied with, simply lease the property before entering into another lease option at the desired purchase price.
Protected from what? The value went down. The buyer has the "option" to buy the property for the agreed upon price of $400k. The buyer either buys it for $400k, or doesn't exercise the option to buy because the property isn't worth $400k anymore.
What does the seller need protection from?
@Brandon Roof That makes sense! I realize now that they would not need “protection” since the value went down. It just clicked for me haha. Thanks for the info!
@Joe Villeneuve Yeah, it just clicked for me haha. There’s no need for “protection” since the value went down.
@Cody Richard I am not sure if the seller would ever be protected but a suggestion is - if that happens ask the seller if he would be willing to extend the lease term until prices get better. If the market tanks, no one will approve a loan for a property that is over valued. So it is in the sellers best interest to extend the option until the market improves. Good luck!
@Bria Johnson That's a good point! Thanks for the suggestion!