Most of us rent until we can afford to buy a home. For many, when they pay rent, it can feel like a “waste” of money, because they don’t build equity with their monthly payments. As it happens, there is a way to make your rent help you meet your goal of buying a home.
Let’s take a closer look at how the rent-to-own process works and how it can help you achieve your dream of transforming from a renter to a homeowner.
The rent-to-own process (sometimes called lease-to-own) is an agreement that allows a renter to buy a home after years of renting.
When you sign a rent-to-own contract, you pay more in monthly rent than the fair market value in order to save for the down payment. How much more you’ll pay each month compared to if you were just renting depends on how much you need to save by the end of the lease to buy the home. That sounds like a bad deal, but the reason you pay more is because those extra payments make up your down payment once the lease ends.
If you choose not to buy the property once your lease ends, you lose the extra money you spent on those higher-than-usual rent payments. If you do decide to buy the home, you’ll still need to get a home loan and follow the typical process required to buy a home. The seller will give the money accrued to put towards your down payment to the lender.
When you’re in a rent-to-own agreement, you’ll split responsibility for repairs between yourself and the landlord. For example, while you may agree to tackle small repairs (like new light bulbs and paint touch ups), the landlord covers large repairs (like a leaky roof). This is one aspect that distinguishes rent-to-own from buying a house on contract, an arrangement where the buyer pays the seller for the house in installments.
You’ll come across two main types of rent-to-own options for homeowners and renters: lease-option agreement and lease-purchase agreement. While both of these contracts allow the renter to lease a home for one to three years before they purchase it at the end of the lease, there are some important differences that you should be aware of.
With a lease-option agreement, the renter pays the property owner an option fee when they sign (about 2 to 7% of the home’s total value). This fee usually isn’t set in stone, so you should try to negotiate with the homeowner or their property management company to see if you can secure a lower fee than they originally offer.
The additional rent payments (known as rent credits) you made are saved by the seller to go towards your down payment if you choose to purchase the home at the end of the lease agreement. Once your lease expires, you’ll negotiate with the seller to come to a fair purchase price for the home. You’ll need an appraisal to determine what the home is worth. Your option fee should help reduce the final sales price.
You do have the option to walk away at the end of the lease and not buy the home, but you will forfeit your rent credits and option fee if you do this.
A lease-purchase agreement works similarly to a lease-option agreement. Under a lease-purchase agreement, you also lease the home for a few years and a percentage of your rent goes towards your down payment. The main difference between these two agreements is that with a lease-purchase agreement, you must buy the home once the lease ends.
Here, you’ll agree to a purchase price when you sign the lease. When you set a price for the home beforehand, you gain a better idea of how much you need to borrow from a mortgage lender.
You’ll have plenty of time to shop for a home loan under a lease-purchase agreement, but if you don’t secure one by the time your lease ends, you give up your claim to both the home and any rent credits that accumulated. The property owner also has the opinion to sue you for breach of contract if you fail to buy the home.
Which of these contract types is the right fit depends on what the housing market looks like at the time. If home prices are on the rise in the current market, you can lock in a price before they rise even higher with a lease-purchase agreement. On the flip side, if home prices are on the decline or stagnant, a lease-option agreement gives you a chance to have an appraisal at the end of the lease before you decide on a price. A real estate agent can help you make an advantageous choice here.
Rent-to-own agreements are a good option for aspiring homeowners who aren’t financially ready to buy a home just yet. These agreements give you time to get your financial life in order. You can use that extra time the lease provides you with to improve your credit score and save additional money for a down payment.
These agreements are best for those who already know where they want to live. If you find a home you can lease in an area that you love, is close to work, or has a great school district, then a rent-to-own agreement may work well for you. On the other hand, if you’re not entirely sold on the area and want to keep your options open, then a rent-to-own agreement can make you feel trapped for fear of losing your rent credits.
So, why would a seller want to go through all of this instead of going through with a traditional sale?
If a seller struggles to sell their home and it sits on the market for a while, they can attract a potential buyer with the offer to let them build their credit and down payment over time. It’s important for sellers to get an idea of how strong the buyer’s credit is upfront. Even if the buyer improves it over time, the seller should make sure it’s in a good enough place right now that the buyer could qualify for a loan down the line.
Before you make a decision about whether or not a rent-to-own agreement is a good fit for you, take some time to consider both the advantages and disadvantages of such an agreement.
The rent-to-own process isn’t for everybody, and it takes a lot of work to find a seller who wants to undergo such an agreement. But because renting-to-owning helps you save and plan for a down payment, some may find the whole process (hoops and all) to be worthwhile.
When you list with Orchard, we’ll get your home show-ready and make repairs to increase your home’s value at no upfront cost.
Orchard guarantees your home will sell, so you can buy your next one worry-free.
We provide peace of mind that your home will sell, plus list your home on the market to maximize your earnings.
Use our home sale calculator to estimate your net proceeds.
Our Home Advisors are experienced local agents who know how to sell for top dollar and help win your dream home.
All Orchard Home Advisors are experienced agents who know your local market inside and out. Request a consult today.
Did you know cash offers are 4x more likely to be chosen by a seller? Let us help you make one on your next home.
Get the most accurate free home valuation — in minutes
Orchard Home Loans shops the market to find your best rates.
A cash offer is 4x more likely to be chosen by a seller. Get qualified today.
Make a cash offer now, and Orchard will sell your old home after you move.
Tell us your must-haves to see personalized home recommendations that meet your criteria.