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Lease Options Explained

With the changing economy and increasingly strict federal lending regulations, there will likely be a rise in alternative structuring of real estate transactions. When a prospective purchaser is unable to qualify for traditional financing, there are several non-traditional financing options available, including the Credit Sale (sometimes known as “owner financing”), the Bond for Deed (similar to a Credit Sale with the exception that title does not transfer until the debt is paid in full) and the Lease Option. The following is a very brief summary of these unconventional financing methods.  


Credit Sale

A Credit Sale is often referred to as an “owner financed” transaction. In a Credit Sale, the seller of the property acts as the “bank.” Title to the property transfers to the purchaser at the closing table, with the purchaser executing a Promissory Note promising to repay the financed amount to the seller in monthly installments, with interest, just as he would repay a Promissory Note to a traditional mortgage lender. In exchange, the purchaser grants a mortgage to the seller which allows the seller to foreclose on the property in the event that the purchaser defaults on the promissory note. Because title has transferred to the purchaser, he is responsible for taxes, insurance, etc., on the property.


Bond for Deed

A Bond for Deed is very similar to a credit sale except that ownership of the property does not transfer at the closing table. Instead, the Bond for Deed contract outlines that the prospective purchaser will pay an agreed-upon sum of money, plus interest, to the seller in monthly installments. Once the entire sum (the purchase price) has been paid, ownership of the property actually transfers to the purchaser. In the event of default by the prospective purchaser, the seller can have him declared to be in breach of contract and have the contract cancelled. At that point, the purchaser forfeits any amounts that have been paid to the seller and must vacate the property.


Lease Option

The Lease Option involves a lease agreement between the Landlord and Tenant which includes an option for the Tenant to purchase the property at a future date. This transaction typically involves a higher than normal deposit, and rental payments that are higher than the market rate. A portion of the monthly payment is considered the “rental” payment, and a (usually smaller) portion is considered the “rent premium.” The “rent premium” portion of the payment is credited to the future purchase of the property if the Tenant exercises the option to purchase the property by the agreed-upon date. However, the rent premium amount is typically forfeited in the event that the Tenant elects not to purchase the property.

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