Buy Low, Rent Smart, Sell High–The Art of the Lease-Purchase

I recently read a great real estate investing book that I highly recommend. It’s called Buy Low, Rent Smart, Sell High, by Scott Frank and Andy Heller. Before we get to the book, let’s talk about the lease-purchase.

Lease-Purchase Strategy

A lease-purchase agreement is nothing more than a rental agreement that gives the tenant an option to purchase the home at a set price during the term of the lease. A typical lease-purchase agreement has the following terms:

  • 2-3 year rental term
  • An agreed upon purchase price
  • An upfront non-refundable option fee the tenant pays (which usually goes to the purchase price if the tenant exercises the option)
  • A monthly rent credit the tenant can apply to the purchase price if they buy the property

Of the four single-family rental units I own, one of them is set up as a lease purchase, and it is always my preference to get a lease-purchase tenant in the home rather than just a renter.

Now, back to the book

Unlike so many real estate investing books, this one doesn’t promise to make you a multi-millionaire in six months with no money down. It soberly walks through how to get started investing in real estate, setting up a real estate team (which is critical), finding good homes, obtaining finance, marketing your home, and so on. But what really sets this book apart is its discussion of the lease-purchase, which is the focus for the authors.

One of the great things about a lease-purchase as outlined in the book is that if done right, it can really be a good deal for both the landlord and the tenant. Here are some of the key points:

  • The purchase price should be locked in for the length of the agreement:
  • I’ve heard from some tenants that in their previous lease-purchase experience, the purchase price was left open. That’s bad for both parties as it invites uncertainty, and is just awful for the tenant. The whole point of the option fee is to pay to lock in the price.

  • The option fee should be reasonable:
  • This is another one where tenants tell me they’ve paid huge option fees upfront. I always wonder why. As a rule of thumb, we charge 1% of the established purchase price, and apply the fee to the purchase if and when the tenant exercises the option.

  • The rent credit (or applied rent) should be fair:
  • The rent credit is an important part of the deal. Many lease-purchase tenants enter into the agreement because their credit history doesn’t enable them to buy now. What they need is a way to save for a down payment, and the rent credit earned each month the rent is paid helps them do that. A credit of just $150/month adds up to $5,400 over a three year lease term. As a rule of thumb, we set the rent credit at 10% of the rent.

    Other Benefits of the Lease-Purchase

    The lease-purchase has several additional benefits. First, tenants tend to take better care of the home, because they view it as their home. Second, the option fee provides a nice source of upfront money. Third, if the tenant does exercise the option, it enables you to sell the home without the costs of a traditional listing.

    I should add that even if you don’t plan to use the lease-purchase strategy, the book is still worth a read as it covers many topics that apply to all landlords.

    Let me know what you think of the book, and if you’ve used the lease-purchase strategy before, how did it work out for you?

Published or Updated: March 15, 2014
About Rob Berger

Rob founded the Dough Roller in 2007. A litigation attorney in the securities industry, he lives in Northern Virginia with his wife, their two teenagers, and the family mascot, a shih tzu named Sophie.

Comments

  1. DR,
    Excellent recommendation and a good read for the investor.

    – Gena Riede

  2. Mr. Cheap says:

    What’s your feeling about articles like John T. Reed’s (http://www.johntreed.com/leaseoption.html) that claim that Lease Options are almost without exception a bad deal for the tenants/”future owners”?

    I looked into lease options a while back, and they seem like a GREAT deal for the owner/seller, but they seem to be quite difficult to set up (up here in Canada anyway).

    If the default rate is as high as JTR claims, I think I’d feel really bad for the failed potential owners too…

  3. DR says:

    Mr. Cheap, I use the lease option a lot, but do so on fair terms. While I’ve heard of $5,000 or $10,000 lease options, mine are closer to about 1% of the purchase price or about $1,500 to $2,000. Also, I am willing to enter into a longer term lease (say 3 years) to give the tenants time to save for the down payment. I also give liberal lease credits to help pay for the down payment. True, not everybody will exercise the option, but for many, the lease option is the only reasonable means of buying a home.

  4. Reggie Lal says:

    This is one of my “Must read” books on RE Investing,
    they good a great job of explaining their long term wealth building strategies
    using LO’s.

    Grab a copy and go thru it -you will be glad you did.

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