Question about lease options...

General Real Estate Investing
1

HEY guys i just signed up on this forum, im a begginer realestate investor. Im 18 and and i havent bougth any type or realestate as of yet. I have carlton sheets course and and just trying to learn how things work… I live in canada by the way…

Ok so my question is if you are leasing a property form someone, i know you are given full control over the property, and i was wondering instead of subleasing the property to soemone, can you fix it up and create a suite in the basement and just rent that out to someone, instead of subleasing it to them? and another thing I dont really understand is if they are renting out the basement from you, are they building up equity? how does that work?

2

An option allows the purchase of a property, if exercised. The lease gives control, but not ownership. The deed stays in the owners name unless the option is exercised. Hope this helps.

In Christ

3

so what your saying without the deed you are not able to rent the place out, rather then sublease lease it to someone else?

4

You don’t need a deed to rent it out to someone else if you have a lease that allows subleasing. See Lease Options Articles:
http://www.reiclub.com/art/find.php?cat=Lease%20Options

5

ok im a little confused. sorry im a newbie… ok so if your lease has written in it that it allows you to sublease it, that means that a portion of the rent that your subleasee is paying is going towards the purchase price right? well i am just wondering if you can just rent it out to soemone without any portion of the money going towards the purchase price and they have an option to buy it under the lease option?..but i dont want to sublease it to anyone i just want to rent it out to someone… is this possible?

6

Hey no sweat,

The only stupid question is one that you don’t ask (or something like that)

Simply put, when you structure the first part of the deal (this is the part where you get the current owner to agree to lease you the property with the option to buy after a set time at a set price, usually not more than present value) you have control of the property and,depending on how you have this part structured, YOU are building “equity” as you put it.

If you then choose to rent a portion of this property to someone else (notice that I said rent not lease-option) then they would have no more claim to title on this property then say a person renting an ordinary apartment.

I’m not sure that I understand your exit strategy. It sounds like you are considering moving into the main part of the home yourself and perhaps excercising the option to take personal ownership down the road. If this is the case then the renter simply won’t know the difference between you as the leasee/landlord (prior to exercising the option) and you as the owner/landlord after you excercise. To the tenant you are simply his/her landlord and you really are neither obligated nor bound to elaborate on your position in the property.

For your part, the beauty of the lease option comes from finding a truely MOTIVATED seller. This person is simply described as someone that is so pinched by the prospect of carrying this home (and mortgage) that they would be willing to lease it to you for THEIR mortgage payment and then sell it to you in say 3,4, or 5 years at present value (let’s assume that the property is currently worth $200,000). Assuming a modest 5% annual appreciation rate; the home, if you were to excercise the option in say 5 years, would be worth $255,000 the same day that you excercise your option at $200,000. There’s your $55,000 instant equity. This stuff is kind of magical isn’t it. This example is a great “rabbit out of the hat” but to see the real Houdini read the free 288 page ebook by Peter Conti and Dave Finkel. That will explain Lease-option techniques in far more detail.

My suggestion to you is that if you’ve got 8 hours to chop down the tree, you need to spend the first 6 sharpening the ax. (a dead president said that).

Good Luck,
Biff

7

thanks you very much biff, thats what i was looking for! another thing i am wondering is …in order for me to rent the place out, do i need to have something say in the original lease, that i can rent it out or can i just do it, as if i owned the preperty?

thanks again,
Russ

8

Well unless your original lease specifically excludes subleasing or renting (which of course it won’t since YOU will provide this lease agreement to the person that you are leasing from) there is nothing to preclude you from renting or Subleasing. I will qualify this by saying that if you live in a state that may be prone to subleasing (ie New york ,New Jersey) you may need to check local laws…really not a bad idea regardless of where you live.

Another point, leasing and renting are essentially the same thing since renting for a predetermined period of time is effectivally a lease, and in real estate “renter’s” typically sign a “lease” prior to moving in.

9

yea that makes sense, but in a lease/sublease purchase, a portion of the monthly payments is credited toward the purchase of the property. When renting nothing is credited toward the the purchase, am I right? and in otherwards renting would be a good choice if you plan on holding the preperty for a long period of time. And while you are leasing the property form the original seller, the person that you have renting the place is actually paying your mortgage, while and if you choose to live in that residence as well. And possibly giving you a small cash flow.

10

I could write a book on the subject of Lease options but I don’t have the space here and I don’t need to. Again I would refer you to the 288 page ebook on this very site that gives trmendous incite into this topic.

You have a basic grasp of the concept but you need to understand the variations before you engage in such a venture. In other words…don’t pull the trigger until you’re sure you know where the bullet comes out.

The one thing that I will suggest is that you stay away from offering to “credit” a portion of a tenant/buyers lease payments and instead agree to sell them the house at a discount of FUTURE value. In the case of my prior example, agree to sell them the home for $243,000 in five years instead of the $255,000 (ASSUMING they excercise their option to buy it then). They will, in effect, have $12,000 in equity as soon as they buy it. This slight distintinction will help you avoid the situation where they choose not to exercise and still feel that you owe them the “equity” that they have acrued in the form of “Credits”.

Furthermore, Assuming a situation where you were leasing them the entire subject property with option to buy, you would be charging them lease payments far higher ($300-$500 on average) than the payments that you are paying to the original seller thus creating a positive cash flow.

11

yea im starting to understand… I signed up for that 288 page ebook but i still have not recieved it, its been like a week.

12

hey biff! how many of these have u done… sounds like you are the man! and in what market can some one really pay over and beyond mortgage as a portion of the contract!

    Finally!!!  do you buy or sell lease options if both, which do you preffer???


    BTW I'm eric..  justs starting out, and I have bad credit  but a lil bit of cash...... so I was considering purchase on option (in San Antonio, TX)
13

F_T_S

  1. NONE, In fact, I have absolutely no idea what I’m talking about and I strongly suggest that you NOT read the rest of this post. ;D

  2. I am NOT the man, There are people in this business that have forgotten more than I will ever know.

That said, you have to understand how the DEAL is structured. To have a true Lease/Purchase DEAL you must have a Seller and a Buyer with you in the middle. From an investor’s standpoint, unless you have a contract to lease purchase from the MOTIVATED seller and a contract for lease purchase with a credit troubled buyer you don’t have a deal. You will notice that I keep mentioning the 288 page ebook, I strongly suggest that anyone who is considering lease options read this book first as a BARE minimum.

I’m not sure I understand your next 2 questions “and in what market can some one really pay over and beyond mortgage as a portion of the contract!”, “do you buy or sell lease options if both, which do you preffer?”

I will try to start with the second question. To actually structure a Lease option, you are doing both. Ideally, you will be leasing from the MOTIVATED seller for up to 6 years at his current mortgage payment with the option to buy at the end of the lease for present value (in this example the home is currently worth $200,000). You would then find a tenant/buyer to occupy the residence. This Tenant:

  1. Is usually someone that has some scar on their credit (ie. Bankruptcy, Forclosure) in their distant past that won’t be “erased” from their credit reports for 1, 2 or more years and prevents them from qualifying for a conventional mortgage at this time.

  2. Has had a reversal of fortune since their credit “event” that allows them to afford a home such as the one that you are offering.

  3. Has a substantial down payment (which you will refer to as an option fee and credit towards the purchase of the home ONLY if they exercise their option to buy), in other words they have to “put their money where their mouth is”. This option fee is non-refundable and is what gives them credability as a serious buyer.

Now, what does the tenant/buyer get out of this?

  1. He gets to move into the house that he will eventually own. Allowing him to provide stability for his family.

  2. He will get to purchase the home in say 5 years at a discount of FUTURE value (ie. $243,000 instead of the projected worth of $255,000 based on a 5% appreciation rate.) giving him instant equity when he purchases the home.

I will elaborate on this because I think this addresses one of your questions.

You are setting a price today that the buyer can take advantage of in 5 years. The advantage to the buyer is that , in this example, you are setting the future value based on a modest appreciation of 4% per year. The average appreciation in your area could be much higher, 8% for example. In which case the home that he now has locked in for $243,000 could conceivably be worth as much as $294,000 the day he closes on it. This would give him a whopping $51,000 in equity the day he buys it from you.

In answer to your question (I think), In ANY market you can get some one to pay “beyond mortgage” (I assume you really mean Market value), because by the time they buy the house they will actually be paying LESS than Market value.

The First thing to understand, is that this strategy relies less on market conditions (although you should always focus on markets that have higher than average appreciation rates IMHO) and more on your ability to find the right kind of seller and buyer.

I think that’s log winded enough,
I hope it helps

14

“Lease-options benefit ONLY the Buyer/Tenant. They put the seller at great risk”. - former AZ senator, Judge Lester Pearce, who authored AZ’s landlord/tenant laws.

Just be very careful in how you structure your contract. Here are the Judge’s list of five items that may cause a judge/court to rule your lease option a “disguised sale”:

  1. Collection of more than 1.5x the monthly rent as an option deposit;

  2. Collection of an option deposit or rent credit to be credited toward a purchase, or to discount the purchase, as in a down payment;

  3. Pre-determining an end purchase price as in delaying or disguising a sale;

  4. The Lessee/Investor also holding an option on the same property in which they are leasing regardless if they are one document or two separate documents (sandwich leasing);

  5. The Lessee being responsible for maintaining the property.

I am not trying to scare anyone nor am I trying to sell them anything. I just think it is very important that people understand all the nuances of the methods of investment they use, the bad along with the good. I love lease options and even wrote a book on them many years ago. However, with the current anti-investor environment in America, it’s important to know your facts. I would still use a lease option as a Buyer, NEVER as a seller.

Best of luck to you.

Da Wiz

15

Thanks Wiz,

As The Wiz points out, EVERYONE should understand how the laws in their state relate to their investing strategies.

I was not aware of the Judge’s ruling in AZ but frankly, I disagree with him wholeheartedly.

If you find and individual who has been transferred to a different state 8 months after moving into a new house, It is very likely that after paying a real estate commission and holding cost associated with 2 mortgages (keeping in mind that he will be making a new mortgage or at least a rent payment in his new location) that it would actually cost him money to sell his home. He is in effect upside down.

If you were to offer to pay him full present retail value for his house (say $200,000) but not for 5 years, and in the mean time cover his mortgage payment. I would say that you have turned a money losing proposition into one that will profit him in the long run.

As for "Disguising a sale�, I don’t understand this. No one is trying to disguise the intent to purchase, in fact it is written into the agreement in relatively plain English.

This judge is taking a stance on this subject as though there is some attempt to defraud. When in fact, it is simply a perfectly legitimate and LEGAL attempt at creative real estate.

His aversion to “Sandwich Leasing” is tantamount to outlawing subleasing or wrap mortgages since this is effectively a combination of the two.

IMHO this is just another classic example of Politicians trying to regulate things that they simply don’t understand. And I would further stipulate that this judges interest in this issue smacks of a personal “axe to grind”

16

Biff,

I agree.

Da Wiz