Do you plan to rent out a home? You will need to choose between traditional rental and rent-to-own (RTO). If you are not sure which option is better for you, this article will help you settle on an agreement.
We will check the most common questions every renter should go through before entering into a contract. This will help you understand the key differences between the normal rental and rent-to-own agreements and pick one that is right for you. Without further ado, let’s dig into it.
What Is Rent to Own and What Are Rent-to-Own Houses?
Chances are you have heard of rent to own if you have even been a tenant. Maybe you’ve been wondering what this type of agreement involves. Well, it is a form of leasing in which renters make payments to landlords or sellers every month intending to buy the RTO house when their lease expires.
It is important to understand each component of an agreement to make an informed decision on whether it’s right for you. Let us try to break it down for you.
Most rent-to-own agreements have 3 main parts, such as:
- Base rent (base lease rate)
- Rent premium (lease premium), and
- Option fee
Most tenants are required to pay an option fee (an initial deposit) when their lease term starts. The option money is a guarantee that they will have the option to purchase the house in the future.
Aside from the base rent, the tenants also pay a rent premium throughout their term. This way they build savings that will go toward the down payment on an RTO home, i.e. the purchase price of the home. This will let them save up right from the beginning of the lease.
Once their term ends, the renters need to decide whether or not to buy the rent-to-own home. If they eventually make the purchase, both the rent premiums and option fee will be refunded. The landlord will otherwise have the right to keep not only the option fee but also all the money that has been set aside for rent.
Traditional Rent vs. Rent to Own Agreement: What’s the difference?
While there are certain similarities, traditional rental and rent to own is not the same thing. These are different types of arrangements. Unlike a traditional lease, rent to own involves building equity in a home which is the main difference between these agreements.
The tenant who rents a house the conventional way pays for his/her monthly rent and initial deposit besides utilities and other living expenses. Keep in mind that you’d get nothing in the end because renting won’t enable you to lean toward ownership. That’s why renting is considered a waste of money.
If you sign a rent-to-own contract, you will have to pay an option fee in addition to paying a base rent and rent premium every month. All of these payments will be counted towards the purchase price.
In this scenario, you will be one step closer to ownership every time you make a payment. Rent and make progress toward owning the home. That makes a big difference between rent to own and rent.
What’s the Difference Between Lease to Own and Rent to Own?
There’s no difference as lease to own is just an alternative name for rent to own. These terms can be used interchangeably. Both the “lease” and “rent” indicate you are in a rental agreement. You will have a lease option with the right to buy the house or property, which is indicated by “to own.”
As mentioned above, the lease option means the tenant has the option to buy the RTO home. The final purchase will prevent you from forfeiting both the premiums and option fee you have paid. That’s the last thing you want when ending your lease.
So leasing to own and renting to own share a common bond: Paying the landlord and renting a home to reside in it and purchase it in the end. It should not be confused with a lease purchase.
What Is Lease Purchase and Who Should Choose It?
Many people confuse a Lease Option with Lease Purchase. The latter is an agreement where the purchase is an obligation, not an option.
A lease purchase is recommended to people who can increase their credit score and qualify for a home loan in the years to come. If you’re unsure of whether you’ll qualify, you better go for the lease option. It will help you avoid legal problems with the seller.
Who Should Choose Renting to Own Over Traditional Renting and Why?
Renting to own is a preferred option for many people, and there are a lot of good reasons for this. It is especially beneficial for tenants who have:
- Insufficient savings
- Poor credit score, and
- Low income
Whether you are on a limited budget or have a bad credit score that prevents you from qualifying for a mortgage, a rent to own can be a great choice for you. Whatever the reason, the RTO arrangement will allow you to purchase a home at some point.
With such an agreement, you’ll rent while accumulating capital at the same time. It will let you purchase your dream home at the end of your lease. This is a good option for renters who’re not sure whether they will be able to qualify for a loan and make a mortgage payment in the coming years.
Why Choose Renting or Buying Over Rent to Own?
Rent to own lets you move into a home of your dreams right after signing a contract. While this sounds great, you should not rush into signing anything. Try to understand the nature of your agreement first.
Rent to own deals have their pros and cons. Many people choose to buy or lease a home in a traditional way rather than renting to own due to the following reasons:
- Risk of losing money in the end (if they don’t qualify for a mortgage)
- Responsibility for repairs while renting
- The locked-in sales price may go down
- Late payments can be a big deal
- No financing guarantee
Related: Rent to own & How it works?
Will I Be Required to Buy the RTO House At the End of My Lease Term?
No, you will not. By entering into a rent-to-own contract, you’ll eventually have a chance to purchase the RTO home and become a homeowner when your lease runs out. You are under no obligation to make a purchase.
You can simply walk away without purchasing. However, it is in your best interest to purchase the home so as not to lose the option fee and rent credit as well. That money would go to the landlord’s account if you fail to make a down payment.
The RTO process typically takes anywhere from 3 to 5 years. For most buyers, this is enough time to get their finances for a downpayment on a house. You will not have to wait for your lease to expire. If you can afford to buy the home, you will be able to do it at any point.
Remember that things will be different if you sign a lease-purchase contract. That type of agreement will obligate you to purchase the house you’re renting when your lease runs out. You will risk getting into trouble with such a contract, especially if you run short of money.
That’s why you need to make a distinction between Lease-Purchase and Rent-to-Own agreements. Talk to an attorney and a real estate agent to make sure you understand the terms of your rent-to-own contract before making up your mind. This will save you a lot of headaches.
Rent to own is not new in the rental world. These programs have been around since the 1950s, so they have been used for decades. This type of leasing has not been prevalent though.
Times have changed. Rent to own has exploded in popularity in recent years. A growing number of people enter into rent-to-own agreements nowadays. This is no wonder because it is now more difficult to get a mortgage loan than ever before.
More and more people are aware of the benefits of renting to own thanks to the information that can be easily obtained online. This has resulted in the growth of rent to own homes as well as potential buyers and sellers on the housing market.
Even though rent to own allows you to benefit from this type of transaction, you should not make a rash decision. Consider property taxes, closing costs, and a down payment that should be put down before signing an RTO contract. Remember that it’s not always a favorable option although it may seem like a promising deal.