Last week we discussed land contracts as a tool for buying or
selling a home in a difficult market. Today, we'll take a look at
rent-to-own agreements, which are similar, but with some important
Both land contracts and rent-to-own (also called lease-to-own)
agreements are a type of seller financing. They can make it easier
to buy or sell a home during times when mortgage financing is hard
to come by, by eliminating the need to get approval from a regular
Rent payments go toward equity
In both a rent-to-own or land contract, the buyer makes regular
monthly payments to the seller rather than to a bank or other
financial institution. After a period of time specified in the
lease/sales contract - often two to five years - the buyer pays off
the balance of the sales price by taking out a regular mortgage on
In a lease arrangement, the deal is structured so that the buyer
has the option of buying the property at a predetermined price at
the end of the contract period. On a land contract, the buyer
purchases the property at the outset, with a balloon payment due to
the seller at the end of the contract. In both cases, some or all
of the buyer's monthly payments, plus any money paid up front, are
figured into the purchase price to help the buyer establish equity
in the property.
The seller as landlord
The big difference between a rent-to-own arrangement and a land
contract is that the seller maintains control of and responsibility
for the property in a lease deal. The seller is responsible for the
maintenance of the property, any repairs and for paying property
taxes and insurance, the same as any landlord. The seller also gets
to deduct those costs, as well as any mortgage interest, on his or
her tax returns.
On a land contract, the buyer is responsible for property taxes,
insurance and mortgage interest, although these will usually be
paid through the seller. However, the buyer does get to deduct them
from his or her taxes; the seller cannot.
A buyer's right to make improvements or alterations to a
property may also be more limited under a lease agreement, unless
those rights are specifically granted through the lease
For a seller, one of the main advantages of a lease-to-own
arrangement is that it's easier to evict a buyer for nonpayment.
The process for evicting a tenant for nonpayment is generally
faster and simpler than foreclosure, which is typically required in
the case of a land contract.
An option, not obligation, to buy
For a buyer, a rent-to-own agreement carries less of an
obligation at the end of the contract than a land contract does. In
a lease-to-own, the buyer has the option - not the obligation - to
buy the property at the end of the contract period. With a land
contract, the buyer has already entered into a loan agreement for
the full purchase price. If the buyer decides not to - or is unable
to - obtain a regular mortgage to cover the balance remaining at
the end of the contract, that's a default and can do serious harm
to the buyer's credit.
For the buyer, this makes a rent-to-own deal a type of "try
before you buy" arrangement. If problems with the home are
subsequently discovered, or if property values fall significantly,
the buyer can back out of the deal with no further consequences,
although they will be out any money they have paid in rent.
To guard against this, sellers typically charge an upfront fee
called an "option to buy." Usually several thousand dollars, it
gives the buyer an added incentive to follow through on the deal
and a cushion for the seller in case the buyer backs out due to
declining home values.
For buyers, one of the upsides of a land contract is that you
can obtain title insurance and register the sale with the county
(though many are not). This allows you to identify any restrictions
or liens on the property up front, which you may not be aware of if
you opt for a rent-to-own arrangement. Registering the sale also
provides some degree of protection against subsequent liens against
In a lease, the buyer loses any money paid in rent and upfront
if they cannot keep up with the rent payments or are unable to
obtain regular mortgage financing to complete the transaction at
the end of the contract period. In a land contract, buyers may
still retain an equity interest in the property in these
situations, depending on state law.
Finally, the main shortcomings of land contracts are also true
of rent-to-own agreements. Specifically, if a buyer is unable to
qualify for a regular mortgage now, there's a good likelihood they
may still be unable to when they contract period expires, even
though many assume their finances, credit or equity position will
have improved by then. Also, it's typically a more expensive way to
buy a home than through a regular mortgage.
If you decide to go the rent-to-own or land contract route, it's
important for both buyers and sellers to get the help of their own
attorney to advise them and help write the lease/sales contract.
The advice of a Realtor with experience in setting up such
agreements is strongly recommended as well.