Making Rent-to-Own Real Estate Deals Work

Margi Lee spent Memorial Day moving out of the historic farmhouse she'd lived in for the past year. After sinking tens of thousands of dollars into repairs on the rambling brick house, the 50-year-old college instructor in Boone, N.C., still was unable to get a mortgage on the place.

This is the worst-case scenario for rent-to-own real estate deals, in which a would-be homebuyer moves into a property as a renter, hoping his financial circumstances and/or the market will change enough in a year or two so that they can close the purchase.

In Lee's case, her deal was the victim of the recession and the resulting contraction of the mortgage market. A lender that said it would provide a mortgage if specified repairs were made had changed its rules by the time the work was done.

Stories like this are what make real estate pros so leery of rent-to-own deals, also known as rent-to-buy and lease/options. But others say this sector is growing and, if done right, this kind of deal can be a boon to buyer and seller in today's market.

For sellers, the key to making a good deal is choosing renters who have a very good chance of being able to qualify, according to Kris Krohn, founder and president of Orem, Utah-based real estate investment firm REIC. "I'm looking for people who are not too far away from homeownership — the top 5 percent of the 20 percent who would like to buy a house."

Krohn specializes in rent-to-own real estate, using a system he calls Compassionate Financing. Krohn says that in today's mortgage squeeze, a lease option gives people breathing room to clean up their credit and build up deposit money, providing a new gateway to home ownership. He says, "The end goal of Compassionate Financing is for tenants to purchase the home. The investor deliberately does everything in their power to ensure the tenant succeeds, even providing financial coaching and assistance with credit repair."

Another wrinkle is a program from American Homeowner Preservation (AHP) designed to help people whose mortgages are underwater. Banks have been unwilling to modify these mortgages. After getting approval from the lender, AHP sells a home about to be foreclosed to an investor. The investor then rents it back to the previous owners with a five-year lease/option.

The deal is based on the investor's purchase price. For example, a family might owe $100,000 on a home that's now worth $50,000. An investor would buy it from the bank for $40,000 and offer the family the option of buying it back at around $46,000.

Says AHP's Jorge Newbery, "This provides incentive for families to stay, pay and repurchase, while it gives lenders prompt cash dispositions on troubled loans. Moreover, it reduces blight caused by additional vacant bank-owned homes pock-marking neighborhoods." He adds that while investors often can get higher returns with these deals, many of them are also like the idea of helping their fellow Americans.

Rent-to-own isn't a panacea, for sure, but the system can help owners move a hard-to-sell property while letting prospective buyers enjoy a new home while they put their financial houses in order.

If you want to take a look at some of the deals on offer, go to Homerun Homes, an eight-year-old online marketplace for rent-to-own deals. Browsing its listings turns up some great offers, as well as some wildly unrealistic ones in which prospective buyers want below-market rents with no money down.

Remember, whether you're a buyer or a seller, rent-to-own works when it's the right deal for both parties.

This is the final installment in our series on rent-to-own real estate. If you missed them, read part one, which explains these deals in detail; part two, which discusses the potential benefits for buyer and seller; and part three on the pitfalls.