??? ABOUT A LEASE OPTION - Posted by Rodd

Posted by JohnBoy on April 16, 2002 at 11:09:45:

This would have nothing to do with credit.

How poor is your credit? Do you know what your credit score is? Do you have any unpaid charge offs or judgements on your credit?

There are a ton of programs out there today where people with poor credit can get financing. It just depends on your credit score and whether you have charge offs and/or unpaid judgements on your credit as to what type of program you could qualify for, the rate you would have to pay and the loan-to-value you could get.

You could get 100% financing today with a 580 credit score. That’s for owner occupied. Other programs offer financing with only 500 credit scores. Some even lower than that. It all depends.

One benefit of getting an adjustable rate mortgage is that it could help you qualify to borrow more because the rates usually start out a lot lower than what a fixed rate does. The lower the interest rate the more house you can buy because the lower rates carry lower payments that can keep your debt ratios in line to where you still qualify because of the payment amount.

Putting together financing for someone can be like putting a jigsaw puzzle together. There are so many programs with so many variables involved and every buyer’s situation is different. There is no one size fits all. So the only way a mortgage broker can really know exactly what they can get for a borrower they really need to see the borrower’s credit report. Without that info everything is just guessing.

??? ABOUT A LEASE OPTION - Posted by Rodd

Posted by Rodd on April 14, 2002 at 20:25:31:

Ok, i wanted to know, lets say i find a lease option deal im interested in. Do i get the deed to the house as soon as we agree on me moving in, or do i get the deed to the house after the 2 years are up, or whatever the terms are? Now, what about the money thats owed on the house? if i make all my payments on time or whatever, does this automatically mean a bank will finance the house? Maybe im confused about what an l/o is? Also, if someone lets me move in on a lease option, am i able to rent the home out to someone else instead of myself moving in, and then basically raise the rent a little from whatever myself and the natural owners terms are?

Re: ??? ABOUT A LEASE OPTION - Posted by JohnBoy

Posted by JohnBoy on April 15, 2002 at 02:31:51:

If you do a L/O with the seller then you don’t get the deed until you exercise the option and pay the seller off. The seller retains the deed. You get a lease with an option to buy at a later date.

If there is a loan against the house then you want to send the payments from your rent directly to the lender to insure the loan payments are being paid. If your rent is more than the loan payments then you can send the difference to the seller. Never send the full payment to the seller if they have a loan on the property. Otherwise you run the risk of the seller not making the payments and using that money for other things instead. Then by the time you found out about it the property would be in foreclosure and several months of payments behind on the loan.

A lease option is just what it says. It’s a lease with an option to buy the property at a later date at a predetermined price. When you get the deed then you would own the property. A lease with the seller would make no sense if you already owned the property.

As long as your lease agreement allows you to sublease the property then you can lease option it to someone else. You would charge your tenant a sizable amount up front as non-refundable option consideration, which is usually 3% - 5% of the purchase price. Lease it to them for a couple hundred or so above your rent amount to create some monthly cash flow and set your option price to your tenant at about 10% above property’s fair market value.

Typically when buying on a L/O you want to lease the property for the same amount of the seller’s mortgage payments and set your option price for the amount of the balanced owed on their mortgage at the time of exercising your option. This is assuming there isn’t a lot of equity involved. Otherwise you may need to agree to a higher option price where the seller would get any equity when you exercise your option and pay them off.

For an example:

You find a house that is worth $100k. The seller owes about $90k and their mortgage payment plus taxes & insurance is $800 per month.

You would agree to lease option the house for $800 per month with an option to buy for the balance owed on the mortgage at the time of exercising the option. They don’t have much in equity and what little they do have would all be eaten up, plus some, just in selling costs if they were to list with a realtor to sell it out right. So in this case even though you weren’t giving them anything for their $10k in equity, the seller would still be coming out ahead on this because you would be saving them from having to come out of pocket to make up any difference in selling costs!

So you are in with nothing down and taking over the property on a L/O for the amount of their payments and for what they owe on it.

Lets say rents in the area for a house like this is renting for $1000 per month.

You would then L/O this to a tenant/buyer where they would need to pay you at least $5k up front for option consideration which would be non-refundable if they don’t exercise the option later. This is money to just buy the option on the property.

Since rents in the area are going for $1000 on just a rental that doesn’t involve any option to buy, you would lease it for $1100 - $1200 per month by getting a premium rent because of giving the tenant an option to buy it.

You would give them an option to buy for $110k which would be 10% above market value. Your agreement with them would be for one year. So by the end of the year if they don’t exercise the option they would lose the option money they paid.

If they do exercise the option then you would apply the $5k option money they paid towards their purchase price. So they would owe you $105k to exercise the option since they already paid the $5k for option money.

In this deal you would make $5k profit on the front end from the option money they paid.

You would make $300 per month in cash flow if their rent was $1100 where your rent to the seller is only $800.

On the back end when your tenant exercises their option you would make about $15k which is the difference between your option price with the seller and what your buyer’s option price is with you for.

So that would be $5k + $3600 (12 x $300) + $15,000 = $23,600 total profit over one year IF your tenant exercises their option.

If they don’t exercise the option then you would have still made $8,600 during the first off the $5k option money they paid plus the $3600 in rent you got for the year and you would still have the property. Then you start the whole process over again by getting more option money from the next tenant/buyer you get, more monthly cash flow for another year and collect that back end profit when they exercise their option. You just repeat the process every year until one of your tenant/buyer’s eventually exercises their option and pays you off, at which time you will pay the seller off.

BTW, you mentioned two year term if you are buying on a L/O. Two years isn’t enough time. You may need more time to get your tenant/buyer to be able to exercise their option with you. So you should require a minimum of 3 years and try to get as many years as possible. The more years you get the better!

When selling on a L/O you only want to give one year terms. When selling on L/O the shorter the term you give the better.

Re: ??? ABOUT A LEASE OPTION - Posted by Jeff Safier

Posted by Jeff Safier on April 17, 2002 at 13:39:39:

Do you need permission from the seller to sublet the house? I mean you do a L/O with a seller, and then you do another L/O with a tenant, so what happens if the seler finds out you are not living in the house but someone else is?

Re: ??? ABOUT A LEASE OPTION - Posted by Jeff

Posted by Jeff on April 17, 2002 at 13:16:19:

John Boy, I just want to say i think its great that you are willing to share your knowledge with people

On the subject of L/O - Posted by Wayne-NC

Posted by Wayne-NC on April 15, 2002 at 12:16:23:

First, I had to print this post as it is a great guide. However, I structrue my L/O differently. Can you think of any potential pitfalls? I set my price at todays market value (which includes a good profit for me) and have a one year lease signed at market rates again with a cash flow. Now for the purchase. I pre-sign an offer to purchase and give that to the tenent/buyer with a year to expire. For him to buy all he has to do is sign and present it to an attorney within that year and I am obligated to sell. The option consideration is 1k, deposit is 750 and 4k is earnest money. The numbers all work for me. Why do I do it this way? For the mortgage companies. They don’t like L/O’s so I just show them my year lease agreement. I usually refi my property using an ARM and sell in the year using this method. Again, what do you think?

Re: ??? ABOUT A LEASE OPTION - Posted by Rodd

Posted by Rodd on April 15, 2002 at 10:46:56:

Ok, that was a lot to take in, so i am gonna read from the top right now and ask questions about what you wrote.
1.You first said i get the deed at a later date, which is determined by the john the seller. ok, well after the lease part is up, and lets say the mortgage payments are 600, and i make all the payments to the bank, will a bank automatically finance me for the balance knowing i have horrible credit? will they do a credit check, or employment check after even after seeing that i have made all my payments on time?
2. Why would the first seller on the house, only charge the monthly mortgage payments as rent for me. Why wouldnt he wanna automatically get some extra out of it and charge 200 more bucks a month?
3. Will there be an up front amount that i will have to pay getting into it? Are you implying for me to basically try to find no money down l/o’s?
4. Will there be credit checks and employment verification for me to even get into the home?

  1. Now, about subleasing, is this something that is normal? Also, would the sublease come when i have exercised my option to buy, or can i sublease it, once i have the keys to the house at the beginning of the lease option on my part? Also, i am a little confused about where the 15k would come in, because if my option was 90,000, and the market value is 100,000 and i raise it 10%, that would make a difference of 20,000 bucks. i know i charged the 5k, but how do i get another 15k, from what it looks like, it would be 25k, plus the 3600. Also, please explain what if the buyer cant get a mortgage from the bank because of his credit, and stuff like that?

Re: ??? ABOUT A LEASE OPTION - Posted by JohnBoy

Posted by JohnBoy on April 17, 2002 at 13:57:31:

Our contract allows us to do that and we tell the seller this up front. We are INVESTORS, not just your typical person looking to buy a home to live in.

We tell the seller this is what we do. It’s how we make our money. We specialize in helping sellers getting their home sold while at the same time helping people that want to own a home to be able to do just that with the programs we offer.

We approach it like it’s all routine business. No need to try and hide anything. The key is dealing with MOTIVATED SELLERS! Sellers that are MOTIVATED don’t care much what you’re going to do with the property as long as you can solve their PROBLEM! Which is to get them out from under their payments.

The benefit of our program is that we guarantee payment on the seller’s loan and guarantee taking care of the property whether our buyers pay us or not! If one our buyers don’t pay then WE still cover the seller’s payments and WE take care of getting the buyer out of the property and WE take care of any damages the tenant may have caused and WE guarantee NO vacancies the seller has to deal with.

If the seller was to do this on their own then THEY would have to deal with all these things which most sellers don’t want to deal with! Most don’t even know HOW to go about structuring a program like this and any that do have a general idea on how they might do it just doesn’t want the headaches! They just want OUT!

Re: On the subject of L/O - Posted by JohnBoy

Posted by JohnBoy on April 15, 2002 at 13:58:53:

The problem I see with using the $4k as earnest money is if they don’t buy you could risk having to give that money back. Where if the money is applied as option consideration they PURCHASED something of value where they would have already received something for their money and it would not be refundable.

You can state the earnest money isn’t refundable, but the question is, how well would that hold up in court, especially if they were unable to obtain a loan? Most standard purchase agreements are contingent upon the buyer being able to obtain a loan. If they can’t the earnest money is refundable. Here you would be dealing with buyers that you KNOW have credit problems already and by trying to take keep any earnest money could be viewed by the court as trying to take advantage of them and force you to refund that money.

In your case where you are financing the propertiies you would be the owner of record. So you would even have less problems to deal with getting your buyers financed than someone doing sandwich lease options. I don’t see where you would have any problems with lenders on this. Especially since you would have been on title for at least a year.

How many times have you been to court where your buyer showed up with an attorney trying to get their earnest money back? And if you’ve been through this, what was the out come? Did the Judge basically tell your buyers to go pound sand or force you to refund the earnest money?

Re: On the subject of L/O - Posted by Rodd

Posted by Rodd on April 15, 2002 at 13:38:10:

finding this hard to understand. did you purchase the home on a l/o and are trying to sublease? what does earnest money mean? and what is the 1k for? please explain more about the mortgage company not liking l/o

Re: On the subject of L/O - Posted by JohnBoy

Posted by JohnBoy on April 15, 2002 at 12:49:21:

I’m a little confused on your post as to which part is pertaining to you buying on a L/O as the investor VS which part pertains to you selling on a L/O to your tenant/buyer.

Can you clear this up better?

Re: ??? ABOUT A LEASE OPTION - Posted by dan

Posted by dan on August 16, 2003 at 14:38:51:

if my lease option sales contract says the buting party
has to close on or before july 1 and there is a time of
essence clause in the contact and they cannot get a morgage in time can i refuse to sell the house after that date to them ? since i gave them a yr to get a morgage .this would be a florida case

Re: ??? ABOUT A LEASE OPTION - Posted by JohnBoy

Posted by JohnBoy on April 15, 2002 at 12:40:12:

No, you don’t just automatically get a mortgage because you made the payments on time. You will still have to qualify to get a mortgage. You will need to show proof of your payments being made on time which is only part of qualifying for a new loan. If you have bad credit you would have to work on getting that cleaned up while leasing the home. This is the main reason why most people buy on a L/O. Because they can’t get a loan right now. They need time to clean up their credit.

But if you are doing this as an investor to invest in real estate then you will never need to get a loan. The tenant you sublease option to will be the one that gets a new loan to pay you off. Then you would use the money they get from their loan to pay off the seller what you owe them and pocket the difference as your back end profit.

The seller doesn’t only charge you anything! YOU tell the seller what you can do for them! You need to focus on sellers that are MOTIVATED! If they aren’t motivated to sell then none of this will usually work. The seller has to be MOTIVATED to sell. Most people do not understand this real estate stuff. And sellers that are MOTIVATED need to sell because they are having a problem of some sort. Usually it’s a financial problem where they can’t afford the payments any longer. The only thing they NEED is to be able to get out from under those payments! If you can offer to solve that problem for them then you can buy the property in most cases with nothing down.

As far as any up front money you have to pay. In most cases NO! It just depends on the seller. If they are behind on payments then you may have to make those up to bring their loan current to avoid the house from being foreclosed on. Or you may need to give the seller a little moving money so they can move into another place. The most I would ever go is about $2500 unless there was a LOT of equity involved. Then I might go more to get all that equity from the deal. But in most cases there isn’t a lot of equity which is why it’s so easy to get them to sell on your terms.

When I’m buying on L/O as the investor I focus on no money down and just take over their payments. When I’m selling on L/O then I get 3% - 5% up front from my tenant/buyer for option consideration.

If you are dealing with MOTIVATED sellers then your credit is never an issue! YOU are the one there to solve the SELLER’S problem! They aren’t there to solve your problem! They NEED to sell! I don’t HAVE to buy! I can chose from THOUSANDS of homes to buy, but they only have the ONE home they need to sell! So when I’m buying from them, it’s my way or the highway! I’ll just go buy someone elses home instead! I don’t need them! They need ME!

Yes, subleasing is normal buying as an investor. That is the main reason you do this! If you couldn’t sublease you couldn’t make any money! You do this to make MONEY!

In the example I gave you would get $15k on the back end.

You gave them an option price of $110k. They paid you $5k as option money up front. IF they exercise the option then the $5k option money they paid you would be credited towards the option price. So after giving them a credit for the $5k option money they paid, they would only owe you $105k to buy the property. $105k - $90k = $15k.

Whenever you get a buyer you NEED to properly screen them and verify everything before putting them into the property. You can hook up with a good mortgage broker to work with and run all your tenants through him to check their credit. The mortgage broker would do this because he would want the chance to get them their financing later where he would make some money for doing their loans. You want to deal with peopeple that have a fair chance of being able to get a loan within a year or two down the line. If there isn’t nothing they could do that would make it possible for them to be able to get a loan later then you shouldn’t aell to them on a L/O because they will never be able to buy the property. Deal with only those that have a fair chance of obtaining financing.

Then if they are required to do certain things to get their credit cleaned up then its up to them to do the things required of them so they can get the loan they need to buy the house. If they don’t do the things they are suppose to do then in the end they won’t be able to buy the house! Plain and simple! Then at that point you can either write them a new lease with an option, charge them more option money for getting a new lease option, adjust rents for inflation and adjust the optipon price for inflation where they may have to pay more money the next time around. It’s their own fault if they didn’t do the things they were suppose to do, not yours. You are not running a charity, you’re running a business and need to treat it as such. If they can’t buy and don’t want to renew or you don’t want to renew to them for some reason, then they have to move out! You then get another tenant/buyer and start the whole process over again! This is WHY you never want to settle for a L/O on your end with the seller for less than a 3 year term. Your buyer may not be able to buy in the first or second year to where you will need more time to get them financing so you can make that back end propfit.

If at the end of your L/O term you still don’t have a buyer that can qualify to cash you out, then you will either need to negotiate for another term with the seller, or you could exercise your option to buy the property yourself if it had a lot of equity build up since you originally lease optioned from the seller, or you could try to sell it out right to a retail buyer before your contract expires or you could just walk away from it all when your contract with the seller expires! Remember, you only have a lease with an OPTION to buy. You are not OBLIGATED to buy. It’s your option as to whether you elect to buy it later or not!

Re: ??? ABOUT A LEASE OPTION - Posted by Jeff Safier

Posted by Jeff Safier on April 17, 2002 at 15:25:28:

Any good tips on how to find motivated sellers?

Re: On the subject of L/O - Posted by Wayne-NC

Posted by Wayne-NC on April 15, 2002 at 14:28:20:

JohnBoy, I have all intention of refunding earnest money just like a purchase so that is not an issue. However, I do keep the 1k option consideration and the deposit if they don’t fulfill the year. I also have them see a mortgage broker NOW to find any potential problems that may take a year to correct. Sometimes I will accompany them. Now they have their plan to buy. Ofcourse I try to pre-qualify before that. Any further comments are welcome. I think we have a good string going here. Have you seen this variation of L/O before in the archives? Where can I look?

Re: On the subject of L/O - Posted by Wayne-NC

Posted by Wayne-NC on April 15, 2002 at 14:10:13:

I purchased using an Adjustable Rate Mortgage and leased the property for the year along with a signed contract for sale. Earnest money is part of most purchases whereby the buyer puts his money where his mouth is, meaning he means business. If the buyer defaults on the contract, the seller keeps the earnest money. It kind of acts like option consideration. My 1k is the earnest money/option consideration. Mortgage companies typically do not like to lend for only a year and others think my income is not as stable as a year lease. Hope this helps.

Re: On the subject of L/O - Posted by rodd

Posted by rodd on April 15, 2002 at 13:39:02:

me too

Re: On the subject of L/O - Posted by Wayne-NC

Posted by Wayne-NC on April 15, 2002 at 13:03:19:

I purchase conventionaly using an ARM. My L/O pertains to the sale. Now that I read my post again I can see the confusion.

Re: ??? ABOUT A LEASE OPTION - Posted by ChrisP in CT

Posted by ChrisP in CT on April 30, 2002 at 16:44:35:

OMG, if I only knew this stuff a few months ago! Actually, I’d still be up the creek… lost my job a month ago and was holding the phone today looking at CS’s “plan.” (eBay a MUCH more equitable option) Looking at this from both sides of the coin, L/O’s are a good deal and I would have given my left arm to get into buyer side of it. (hey, look, a sale here… if I had more than unemployment income to speak of! LOL) But as an investment, this is good stuff. After lurking for a good portion of the day here, I finally see the inner workings of the business. Certainly viable, provided you have the sellers to speak of. And those can’t be too hard find, if you look. But people are a greedy lot. I can see the sellers wanting a little more than the mortgage. Any of you ever pay that little extra to the initial seller if the deal is good enough? Seller not being is SO much trouble, but needs to say, move or something? Just looking into narrowing the gap between L/O buyer and prop seller.

Re: ??? ABOUT A LEASE OPTION - Posted by Chiman

Posted by Chiman on April 15, 2002 at 16:51:51:

Thanks for all the information on L/O, Still trying to learn the ropes. I have a few questions:

(1) how long does it take to sublease a property?

(2) it is very easy to find a tenant/buyer, because if it isn’t, I guess one is screwed making the payments.

(3) Is it better making a contract between your S-Corp and the Seller, to protect yourself against too much liabilities. Will this be a problem ?

(4) In your opnion l/o, buying low and refinancing high to get out money, flipping etc, which will you recommend for a new investor