Buyers with a less-than-perfect credit rating or other obstacles preventing them from obtaining a home loan may benefit from rent-to-own financing. This type of situation enables a buyer to rent a home for a certain amount of time and purchase it once traditional financing becomes possible. During the lease period, payments can be made towards the home's principal and credited towards the down payment at closing. There are also other methods of paying towards the home's purchase price during a lease option.
An option fee serves as a good-faith deposit on the home, but typically is non-refundable in case the buyer defaults on the deal. The exact amount is usually negotiated between the buyer and seller, but standard options fees range from 1 to 5 percent of the purchase price. If you proceed to closing on the home within the specified time period of the option, this amount is fully credited towards the down payment.
Typically the seller of the home will ask for a fair market monthly rental amount, plus a monthly rent premium. The rental premium is that portion of the rental amount that is credited to the principal of the home, and can either be held in an escrow account or deducted from the purchase price at closing. The amount is determined between the buyer and seller when the lease-option period begins, and can either be a flat fee or a percentage of the lease payment.
Although the length of the lease period is determined by the buyer and seller, it should allow the buyer enough time to fix or repair whatever credit issues are preventing them from getting a home loan. Most lease-to-own deals have a lease term of at least a year or more, but may allow a buyer up to five years to buy the home. Because of the recurring monthly premium paid each month, buyers with longer lease terms will be in a better equity position when it comes time to close.
In addition to the option fee or any rental premium amounts, buyers in lease-option situations can also save extra funds for their down payment. There's no rule that says you can't put more than the initial amount down on the home when it's time to close. If you're able to save for your down payment while renting and put that towards the purchase price along with any other additional payments to the principal, you'll be in particularly good stead.
Meribeth Phipps has been a real estate broker since 2000, specializing in residential new home sales. She holds a bachelor's degree in business and marketing.