In A L/O Do You Give The Owner A Security Deposit? - Posted by Rik NJ

Posted by Brad Crouch on May 14, 1999 at 11:31:23:


You can’t argue with what is actually working!

Thanks for the kind words.


In A L/O Do You Give The Owner A Security Deposit? - Posted by Rik NJ

Posted by Rik NJ on May 12, 1999 at 10:12:12:

When doing a L/O is it customary to give the owner a security deposit? And if so, do you require the tenant/buyer to provide a security deposit as well as the option consideration money? Any help would be greatly appreciated.

Re: In A L/O Do You Give The Owner A Security Deposit? - Posted by Russ Sims

Posted by Russ Sims on May 12, 1999 at 10:53:18:

You certainly would’nt volunteer to pay a security deposit. The idea is to convince the seller that you are the only security they need. If the seller insists,I simply give them a note for the deposit due and payable if and when I find my T/B. Then I require my T/B to fork over.I will never give a deposit of my own money up front. Been there, done that and sorry I did.

I know many L/O investors don’t require a security deposit as well as option consideration. But I can see an argument for one. If a T/B walks without exercising their option, they know their option consideration is lost. What’s to motivate them to leave the property clean and in good repair? Nothing, really, except a security deposit. If they do exercise the option, that deposit is of course treated as additional option consideration.If anyone has a good argument against requiring a security deposit, I’m all ears.

Deal Killer - Posted by hkCA

Posted by hkCA on May 12, 1999 at 13:00:59:

A security deposit may appear to be a nice added security feature for a L/O, but in all practicality, I think it’s more of a deal-killer. The fact that you’re asking the buyer to put up a substantial option consideration, pay above market price for the house(?), and pay above market rent seems pushy enough, but to require a security deposit as well may put them over the edge.

Besides, what is the point of a security deposit? Frankly, I would rather have a larger option consideration. Here’s why:

Let’s say you require a $3000 option consideration and a $1000 security deposit.

A. The people eventually buy the house. You get the $3000 plus the $1000. Total $4000.

B. The people don’t buy the house. You get the $3000 and MAYBE some of the $1000. Total $3000+?.

Now, suppose instead you require a $4000 option consideration. (Buyer puts up the same amount as above, $3000 + $1000).

A. They buy the house. You get the $4000.

B. They don’t buy the house. You get $4000.

Also, knowing that if they don’t buy the house they’re losing $4000 instead of $3000, they may be more apt to think harder about the purchase.

Just my view,


Re: Deal Killer - Posted by Jim Beavens

Posted by Jim Beavens on May 12, 1999 at 14:32:35:

I disagree. Bronchick raised some good arguments for a security deposit in his L/O workshop.

  1. First of all, the deposit would be significantly less, like $250 (so you would then try and get $3,750 in option consideration in your example).

  2. This gives you something to hang over their head if you want them to leave, although with a smaller amount it’s not as effective, but may appease some people.

  3. It makes your rental agreement look far more legitimate as a seperate transaction from the option, which could prevent a judge from ruling that your tenant has equitable title in the property (this is the biggest advantage, IMO).

Just my opinion…

Re: Deal Killer - Posted by hkCA

Posted by hkCA on May 12, 1999 at 15:40:24:


Thanks for your input.

Regarding your issues #1 & 2, whether that small amount will influence the tenant’s decision on what to do is a moot point. I’ll concede, though, that it COULD possibly have some weight in their ultimate decision as to what condition to leave the premises in. But my feeling is that if a tenant is going to be vindictive and he already is losing several thousand dollars, a few hundred more isn’t going to make much difference to him. Most likely, he is going to overstay his rental term anyway, and thus owe some rent when he leaves. But again, these are all uncertainties.

Regarding point 3, I tend to agree with you if you use a combined option/lease agreement. If on the other hand, you use two separate agreements, I don’t see it being a legal issue. To the best of my knowledge, a rental agreement doesn’t have to require a security deposit, so the lack of one should not have any effect of tying the lease to the option.


Re: Deal Killer - Posted by Brad Crouch

Posted by Brad Crouch on May 13, 1999 at 12:40:13:


When you take a security deposit, you “look” like a landlord because this is what landlords typically do. Whether two separate contracts are used or not, you would still be “acting like a landlord” by taking a security deposit.

Now . . . what’s wrong with collecting a $4,000 initial option consideration amount and calling $500 of it a “security deposit”. You would initially tell the tenant buyer the option consideration was $4,000, without even mentioning a security deposit. Then when papers were being signed and monies exchanged, you could be in a position of appearing the “good guy” by handing the tenant buyer a receipt for $500 as a security deposit . . . and telling him that this $500 would be refundable if he ever decided not to exercise his option and vacated, leaving the premises in “move in” condition.

If the tenant buyer ever went to court with an “equitable interest” argument, trying to stay in the property (maybe for free) for a while longer (by forcing you to go to a higher court) . . . it would be clear to a judge that you were “acting like a landlord”, and that perhaps this WAS merely a lease. Especially if the option was a separate agreement.

What do you think?


Re: Deal Killer - Posted by hkCA

Posted by hkCA on May 13, 1999 at 14:34:07:


My main concern with taking a $4000 option consideration and calling $500 of it a security deposit is that you are only getting $3500 instead of $4000 if the tenant decides not to buy. If you had quite a few options going per year that were not exercised, that can amount to a substantial amount of money being returned that may not have had to be returned.

Now let me say that I don’t necessarily believe that my thinking about security deposits is correct, that everyone should do as I think, or that it is the right choice in every situation. Whether to take a SD should be an individual decision based on the Tenant/Buyer, the sellers future plans, the particular house, and a host of other things. But in my case, I use a system that has worked well for me. I thoroughly screen all applicants. I keep in contact with them throughout the lease period. I become their friend and confidant. Sounds like a lot of bother? Sometimes. But I’ve found it tends to keep me out of court and I’ve gained their respect by bending over backward to help them. In return, I’ve had very few problems with those moving out. I’m not so gullible as to believe I’m not going to open up a house one day and find it trashed. But that could happen even with a SD.

I understand your reasoning about being the nice guy by telling the tenant that part of the OC is a SD. My “nice guy” approach entails telling them that I am going to “waive the usual security deposit because of their excellent credit and rental history.” In fact your post has given me the idea to put a paragraph in the lease agreement stating just that. And I may add something to the effect that if the property is left in good condition, I will give them a letter of reference, blah, blah, blah. If they had good references in the past as well as good credit and a good rental history, most likely they would not jeopardize all of that.

Now, your point is well taken that “acting like a landlord” could be important in a court case. I don’t know how much convincing a judge would need. I’ve never had to plead my case in court. Maybe if I did, I would change my thinking and play it safer.

Brad, let me say that I have always enjoyed your posts. I find them to be informative and wise. Like JPiper and many others, your contributions are much appreciated by most, if not all of us.