Do Lease Options Work Today?

By Thomas J. Senatore

Do lease options work today? The short answer is yes, but there are some important issues you should be aware of.

The use of lease options (also known as rent to own) as an investment strategy is still one of the best methods for investors looking to get into the real estate game today. The sandwich lease option strategy is one of the most popular and effective strategies for new and experienced investors. It works this way: You find a motivated seller (someone with a circumstance that is driving him to sell quickly) who owns a nice home in a good neighborhood where the market is appreciating but he has little equity. You reach an agreement with him (the owner/seller) to take over his property under a lease option. Then you locate a potential tenant/buyer who moves into the property under a lease option. When the tenant/buyer is ready to exercise his option and buy the property, you exercise your option with the owner/seller at the same time, and everybody wins. Of course, this is just an overview of the strategy, but you get the idea of how it works.

The question arises as to whether we are entitled to control a property without owning it and sell the property to a third party. Some states are looking at legislation that would prohibit transactions such as sandwich lease options. In Texas , for example, some investors were using this strategy but not following the conditions of the original contract or were deliberately contracting with tenant/buyers who would not be able to qualify to purchase the house in the time allowed by the contract. Because this behavior had all the indicators of an unfair and deceptive trade practice, it attracted the attention of the Texas attorney general and legislators.

Were these investors deliberately trying to defraud the people with whom they were doing business? I don't know, but I believe it's likely that many of the situations were created by investors who didn't completely understand how to handle the transaction and unintentionally got themselves into trouble. If you attempt to use a lease option strategy without fully understand all the requirements and conditions, your lack of knowledge could land you in serious trouble.

Lease options are not difficult, but they require attention to detail. And while it is not legally mandated that you carefully screen your tenant/buyers, the reality is that if you do, your chances of ending up in litigation are substantially reduced. You should make full disclosure to the owner/seller and be sure he completely understands the deal you are putting together. The same applies to the tenant/buyer, who must be informed that you are acting as a landlord and not a property owner in the transaction. Set the option consideration and monthly payment from the tenant/buyer at a reasonable amount. And be sure the tenant/buyer has a way to get out of the deal if he can't purchase the property.

Texas has passed legislation which appears to prohibit the sandwich lease option strategy (also known as a double lease option). Other states may follow the actions of Texas . This can happen when a homeowner files a complaint with the attorney general that results in litigation—and homeowners usually only file complaints when they feel they haven't been treated fairly.

There are two important lessons to be learned. First, check with the real estate attorney on your power team to confirm exactly what is legal and what is not regarding lease options in your state. Second, put your deals together so that all parties are treated fairly and then follow the terms of your contracts. When you operate with integrity and strive for win-win transactions, you will enjoy personal and financial success for the long-term.