Lease Purchase investing can be a very lucrative method to invest in real estate, however, it should be used with caution. There are only a few instances where a lease purchase should be used over a lease option.
A Lease Purchase is a guaranteed purchase of a piece of real estate sometime during or at the end of a set lease period.
A Lease Option is the right to purchase real estate sometime during or at the end of a set lease period. There are times when both should be or could be used to invest in real estate.
Here are a few examples of when you may prefer a Lease Purchase instead of a Lease Option:
- The market is appreciating rapidly.
- The deal structured is a great investment – no matter what happens in the market.
- The property has a buyer that is solid and lined up.
- As a final negotiation technique on a solid investment.
Let's break these down further and evaluate them each in more detail.
The Market Is Appreciating Rapidly
When a market is appreciating rapidly, then a lease purchase can be a good choice. After 12 months of payments (with proof of cancelled checks) an investor can use a “lease option refinance” on the home. This enables the investor to buy the property and close on it with their own mortgage based on the appraisal and not the purchase price. This program is available all over the country. For instance if the investor secured the home on a lease purchase for $200,000 and the home now appraises for $275,000, the investor would be able to show $75,000 equity in the home, assuming they had 12 months of payments to the seller. This is over 20% down, therefore no private mortgage insurance (PMI) will be necessary on the purchase of the home either. Normally I would not suggest a lease purchase or lease option with a short time frame with the seller, unless it was a very good deal. I would normally recommend 3-5 years at a minimum, however, in a stronger market sellers may not be willing to go that long term.
The Deal Structured Is A Great Investment
When you structure a lease purchase that is so good it doesn't matter if the market depreciates a small amount, then you know you have found a good investment. For instance: a seller is willing to lease purchase their home to you at a price of $200,000 and the day you lease purchased the home it was worth $250,000. The seller might have also given you a long time period, low monthly payments, or option credits from each month's rental payments. Any of these things can create a very strong profit margin for the investor. When a lease purchase deal is structured very strong for an investor, then it is okay to guarantee a purchase.
The Property Has a Buyer That Is Solid & Lined Up
If you already know who will be purchasing the home from you and you know they are solid, then you can consider a lease purchase. Just make sure that your buyer is really solid on the home and is qualified to purchase. Using lease purchases with end buyers can be risky, as the only recourse is to sue for specific performance. If the buyer can't get a mortgage or doesn't have money before the end of their time frame, then what will you win in court anyway? You can't squeeze blood from a turnip, so what will you do even if you win? You will only be throwing away good money after bad. Consider this when you feel you have a solid buyer. How solid are they? Can they get a mortgage? How sure are you on this? For instance, I am a good candidate on a lease purchase. A seller would be able to get me to perform. I can qualify, I do have the means, but not everyone can or will. Make sure the investment is good enough if they don't or that you will be willing to close if your buyer does not.
As A Final Negotiation Technique On A Solid Investment
There are times when you might be negotiating with a seller for a lease with an option to buy and the seller is concerned that you will not perform or purchase the home. They don't want the house back and are hesitant. This is when you can throw the lease purchase in as a way to secure the deal. Only do this if the deal is solid enough as a lease purchase. Don't guarantee something you don't want to or can't fulfill.
When investing in real estate using a lease purchase always know ethics play a big part. If you say you will purchase the home from the seller, then you should do what you say you will do. If for instance you can't close on the home due to personal circumstances then consider several other options: partner with someone who can, sell it outright, get a private loan, wholesale it, etc. Always make sure you do what you say you will do as a real estate investor or you will affect the real estate investing entire industry.
Lease Purchases are a great way to buy real estate when the terms or market are right. Always get a Lease Option if the seller is willing to do one over a lease purchase. It is a safer technique. Lease options are great as well, but there are those times when nothing will work better than a Lease Purchase.