making money with lease options

7/28/2019 Making Money With Lease Options

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Making Money With Lease Options, Rent To Own etc.....

Lets start with some basic definitions. What is a "lease option?" Basically

speaking, it is the ability to lease the subject property (real estate) for a monthly,

or annual payment amount, and have the option to purchase the subject property

for a set price at the endor anytime - during the lease period. Lease options go

by a lot of different names. "Rent to Own," "Lease with Option to Purchase," and

"Purchase Options" are the most common. The names may be different, but

essentially all these titles mean the same thing. As you become more educated in

different techniques, you find more and more ways to structure the offer, all of

which will have an impact on how much you can get paid. There are a lot of

reasons to buy property using a Lease Option, from an investors point of view.

One of the foremost reasons is that it allows you to control an asset with little, or

even none, of your own money. Talk about leverage! You mitigate your downside

risk further because you are not the one that has qualified on the loan yet, you can

control the asset. Before I get into some of the mechanics, lets look at some of the

benefits to you the investor, as well as direct benefits to the buyer and seller, using

this strategy. As I said before, as an investor you can earn maximum leverage withminimum cash outlay. You can put a property under contract to lease-purchase for

little to no money, and then find a buyer that would put up the option

consideration. You can usually control a property for a 1-2% down payment that

would normally require a 10-20% down payment if you were buying. There are

also at least 3 ways to get paid when doing lease options; we will get more into

that later.


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Advantages to You, The Investor

Maximum Leverage

Minimum Cash Outlay

No Property Maintenance

Cash Flow

You also dont have any maintenance on the property if you shift responsibility to

the new buyer; andany major problem would fall under the sellers homeowner

policy. The last benefit listed above is also the most important - cash flow. You are

not a charity. If structured correctly, lease option transactions can give you 3 and

sometimes even 4 or more paydays on the same property. With all these things

going for it, you can see why lease options are a great way for investors to go.

There are several types of options: a strait option, a sandwich lease option, or an

assignment on an option. We discuss all of these, and more in detail. Making you

money is great for you, but why would a seller ever go for it? Lets look at some

reasons for selling a property on a lease-purchase. When Sellers are more flexible

on their terms, they can usually demand a higher sale price. Buyers are more apt

to give them what they are asking without haggling, and you, the investor, can

still make money. When people are buying a property, they have pride of

ownership, and usually take better care of a property. I have actually had

thousands of dollars of improvements done to a property, and the Buyers didnt

purchase. You know what? It wasnt a problem. I then re-rented it, and got paid

option money all over again. You could actually go on forever. If you structure along-term lease up front, you can generate great cash flow. You can also typically

get higher rent, especially if part of the payment goes towards the purchase price

(more on that below). The Seller can also retain all the tax advantages associated

with offsetting income (Check with an accountant). Often times, a seller receives


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up front, a non-refundable option consideration, usually a lot more than a typical

rental deposit.

Sellers Advantages

Get a Top Sale Price

Better Quality Tenant

Higher Rent

Tax Advantages

Non-Refundable Option Consideration

No Management Headaches

Weve looked at benefits to you, the investor, as well as some for the seller, but

whats in it for the buyer? Lease-purchases are great for Buyers because they can

usually get into a house for only 3-5% down. It is oftentimes hard for Buyers to

come up with a big down payment. They also get their rent money working for

them. I like to structure lease-purchases so part of the Buyers monthly payment is

credited each month as part of their down payment. It, thereby, increases their

down payment each month. Buyers love this. Its a much better deal for them vs.

paying interest on a mortgage those first few years. I like to show them an

amortization table to show them the advantages.

To avoid problems down the road, it is good to lock the price today for what they

will pay tomorrow. This works well as the buyer is able to lock in appreciation

without actually owning the property. Those of you in California, and those of you

in some of the other hot markets know what I mean. I think one of the main


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benefits of doing a lease-purchase from a buyers perspective, especially if they

are moving across country, or into an area they know nothing about, is that it is a

great way to check out the neighborhood. Lets face it; some communities are

nicer to live in than others. Its hard to know where "the right side of the tracks" is

when you have never lived in the community. The Buyer may also want to "Check

out" the property. It can take a while to sell a property to if its not in the "Right"

neighborhood and in good condition. Nice Properties in Good Areas Only This is

also one of the reasons why you, the Investor, only wants to do lease-purchase

transactions in "Nice" areas and only with properties that are not in need of

repairs. You will find out that Sellers will practically give properties away in bad

areas, and there is a reason for this give away. You will end up a landlord with

problem tenants if you violate the Nice Property/Good Area rule. Stay outof the

lower and lower-middle class neighborhoods for lease options. They work best

with higher valued properties, for a multitude of reasons. Now that I have shown

you some of the reasons it makes sense to structure a lease-purchase transaction,

lets run through a few examples. As I do, I will explain how you can create

multiple paydays using this buying strategy.

Advantages to the Buyer The Key to Making it WorkBuyers Advantages

Low Down Payment

Rent Money Working for Him

Option Consideration is Credited

Price is Usually Locked In

Appreciation

Time to Evaluate House & Neighborhood


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Control

Example: House on Twin Loop:

How I found the property:

A seller responded to my yellow page ad that stated that I bought houses. I gave

him a FREE report which educated him on how I could help him. Motivation forSelling - Find Out "The Why" The husband had a job transfer 150 miles away, and

they had purchased another house. The realtor had been by, and told them that

they had to spend $5,000 to fix it up before they could sell it because the

basement was not 100% completed. It was a nice house in a good area. Solve the

Sellers Problem I told them I would be willing to lease the house for 1 year, for

$600 per month, as long as I had at least a one-year extension. Their under-lying

payment was $750 a month. I told them that in order for me to lease it, I would

need them to subsidize the payment at least $150/month, so I could make a profit.

You may ask why would they ever do that? Well, there are a lot of reasons.

1. They wanted to sell the house, not just rent it.

2. A Real Estate Agent wouldnt make the payments while it was listed.

3. $150 a month payment is a whole lot easier than $750/mo.

4. They couldnt do 2 house payments.


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Pay Day #1 "Monthly Payment Spread" An Example of

How it Works Your First Payday

I think it also important to say that they "bought" me. We developed instant

rapport, and they sensed that I knew what I was doing. They knew that I could

solve their problem. People will pay for specialized knowledge. I found out the

"Why", meaning: "Why they needed to sell". Then, I solved their problem. Within a

few weeks, I had rented it out to a new buyer, and created a monthly payment

spread of a few hundred bucks that equaled $2,400 a year.

Payday #2 " Front End" Option Consideration.

This is the difference between the amount of "Option Consideration" that you pay

the seller, and the Option Consideration you charge the buyer to get into the deal.

In the above example, I only had to make the property payments they owed. Since

they were moving, that was $600 due in about 2 weeks. I immediately began

marketing the property as a "Rent to Own." Within a few weeks, I had found my

buyer a mortgage broker with a few dings on his credit. He figured he would be

able to buy in about a year or so, and was willing to give me $5,000 as Option

Consideration, and rent of $800 a month. I had to take the option payments over

time. $2,000 to get in; $500 in 30 days; plus $2,500 in 6 months. I said, "Sure."

Lets get back to the Sellers for a moment. I had determined that the Sellers were

payment sensitive, and credit sensitive. That was why they were willing to subside

the payment. They were willing to basically give me their house for their payoffplus $5K. That equated to me, a purchase price of $85,000. This brings us to the

third form of cash flow.


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Payday #3 "Back-End Spread"

What I mean by "Back-End Spread" is the difference between the price that I had

the house under contract to purchase ($85,000), and the price that I had sold it to

my new buyer ($115,000) less the option consideration to be paid by the new

buyer. The reason I call this the back end is because, the money gets paid to you

when your new buyer exercises his offer to purchase. You basically earn the spread

between the two contracts. I will explain further in a moment. Before I recap this

deal, I want to talk about the Buyer. I had sold the property to them for the option

consideration of $5,000, paid over time, plus monthly payments of $800. You may

ask why would he pay so much to get into a house that he wasnt sure he wantedto buy. You see, most Buyers in his situation will do almost anything to buy. He

was a former homeowner. He knew his credit situation would not allow him to get

better then an 80% loan to value in the near future, which means he would have

to come up with at least $20,000. He didnt have it, and he had to wait at least a

year to get his credit scores up. Besides, when I explained that I would give him a

monthly credit of $250 towards the down payment, from his rent payment, it

made it a sure thing. What you are asking is a rent credit. Let me explain. His

payment was $800/month to rent. I gave back to him $250/month, deducted offthe purchase price in the form of a credit. Not bad, huh? Once the Buyer realized

that he was basically only paying $550/month in rent, and $250/month towards

the purchase price, it was a slam dunk. Structuring a lease-purchase for the Buyer

this way helps mitigate any concerns they may have about paying a little higher

rent payment. We all know that the bulk of the payment (99% +) during those first

few years of paying on a mortgage goes to interest, and only a very small % goes

to principle. I just show them an amortization chart vs. a rent credit for a lease

purchase where a 1/2 or a 1/3rd of the payment goes to principle reduction, and it

is easy. Finding the buyers, if you have the right properties, just isnt that hard.

NOW, LETS RECAP....


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PAY DAY #1

Monthly Payment Spread

Payment Out $600 To Seller

Payment In $800 From Buyer

Monthly Cash Flow: $200 x 12 months = $2400

PAY DAY #2

Front End Option Consideration

Option $ Paid to Seller $600

Option $ Collected from Buyer $800

Option Money Collected = $5000

PAY DAY #3Back-End Spread

Purchase Price to Seller $85,000

Sale Price from Buyer $110,000

Rent Credit to Buyer ($200 x 12 mo.) $2,400

Back End Profit = $22,600

GRAND TOTAL

$30,000.00 Profit


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In the beginning of this Section, I mentioned 3 or more pay days. There are

actually a few more. Create "Paper" with Lease-Purchases You can use this

technique a few ways. One way is you can take back part of your back-end profits

from your new buyer is in the form of a note. In the before example, I could have

carried a note for $10 or $15,000. If the Buyer was still going to have a hard time

qualifying for the new loan. I would have actually increased my return, and

monthly cash flow by earning additional interest. The second way to earn paper

on a lease purchase once you get good at creating the deal, is to assign the whole

agreement to another investor for a flat fee, and/or take back a promissory note.

This gets you out of the deal entirely, but earns you some monthly cash flow.

Certain situations may make this an attractive way to go.

Lease Purchases for Cash Flow

Done correctly, lease purchase transactions are on auto pilot. It is a good idea to

use an escrow company to collect the payment from the Buyer. Use an escrow

company to pay the underlying payment on the Sellers mortgage directly, so you

know it gets paid. I feel a little stupid saying this, but the one time that I allowed

the Seller to pay it, it didn't get paid. Its a story for another day. All I can tell you

is, that you must have control in the transaction, or dont do the deal. One of the

reasons I like a third party escrow company to service the payments is that, when

the buyer goes to get their financing, there is an undisputable payment history.

Sometimes you can get that rated as a mortgage, and put it on a credit report to

help with your Buyers FICO credit scores.

Bottom line....Lease options are an excellent way to go. You can control staggering

amounts of property, and not have your name on one single mortgage. Its funny.

If I look back at all my deals over the last 14 years, its the ones I owned with bank


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financing that have caused me the most grief. Lease options are by far less

stressful when things dont go your way, and market conditions change


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JR'S KEYS FOR LEASE OPTION

Find A Property That You Would Like To Purchase On Lease Option. Here Are The

List Of Steps And Documents That I Use:

Check List Buying Real Estate With Lease Options.

1. Optioned Property Information Worksheet,

2. Optionor/Seller's Property Disclosure Statement,

3. Standard Real Estate Lease Agreement,

4. Option To Purchase Real Estate Agreement,

5. Real Estate Optionor/Seller's Affidavit,

6. Notice Of Real Estate Option Agreement,

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Checklist Selling Real Estate With Lease Option

Use When You Are Optioning To Sell And You Are The

Seller

1. Have Each Applicant Complete "Application For Lease/Option" To Be

Submitted With Reservation Check And Photo Copies Of Identification, Social

Security Card, Pay Check Stub And Last Years W-2 Form.

2. Complete "Application Receipt Agreement",

3. Confirm Information On Application And Pull Credit Report.

4. Verify Funds In Account And Deposit Reservation Money Check.

5. Prepare And Execute "Standard Real Estate Rental Agreement"

6. "Move-In/Move-Out Inspection Report"

7. Prepare And Execute "Real Estate Option Agreement"

8. Mark Your Calendar For A Date Before Which The Option Must Be ExercisedAnd Write A Letter Or Call To Remind Optionee/Buyer Of The Timing In Order To

Insure That The Date Does Not Pass Unnoticed.

9. Upon The Receipt Of Buyer's "Notice Of Intent To Exercise Real Estate

Option" Within The Time And In The Manner Allowed Under The "Real Estate

Option Agreement", Then; Prepare And Execute Standard Real Estate Purchase

And Sale Agreement"

10. Follow Standard Procedures For Closing The Sale.

11. If Extending Option Term, Prepare And Execute "Extension Of Option To

Purchase Real Estate Agreement"


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Now those are some of the documents and steps that I would use. Depending on

the deal would determine the paperwork

Never focus on just one; sellers or buyers. Focus on getting BOTH buyers and

sellers at the same time.. if you had to choose, however, get educated on finding

sellers FIRST! You'll be able to practice negotiating and become an expert at

talking with sellers... Once you've got that down, the buyers will come... buyers

will and always have been an easy thing to find... there out there...

So focus on BOTH buyers and sellers, but sellers first if you had to choose one (to

prevent you from getting overwhelmed)..

You can take an option in your name then assign it to a tenant buyer and step outof the way. This does not require a closing at your transaction, contract

assignments are not real estate transfers, but can be filed for record if needed. :)

I invest in real estate that has been on the market a long time or more is owedthan the current value so I am dealing with sellers who are more motivated to sell

so I only pay $10.00 option fee.


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in order to avoid a large option fee to a seller it important to take the right

approach, have the right presentation and it has to benefit the seller enough for it

to have value to them

Selling lease options is actually the focus of my business. To begin with, I just tell

them if they are looking for any money, it will need to be on top of my 5%

assignment fee. So if they are selling a 100k house, then I get 5k so if they need 3k

then we gotta find someone with 8k. Then I ask them If I should ignore a good

buyer for the property that does not have at least 8k. They usually quickly come

around and tell me just to get someone good.

I personally use an attorney to draw up all of my papers and close the deal at his

office. I charge the buyer for this service. All checks are written to the escrow

account, and checks are cut accordingly for first month rent and assignment fees.

You work with the owner to set the numbers, including the option price, rent and

rent credit.

When I send preliminary figures to the owner, I know that those are very likely the

figures we are going with. I include in there my assignment fee, and I normally

give the owner $1k of that, since there is no deposit with a LO, or at least you

really don't want one.

Then, you sign the docs with the owner, giving him $5 or $10 or whatever for

option consideration, and you now need to bust it to find a tenant/buyer to assign

it to.

You aren't assigning it to an investor, you are assigning it to the end buyer.


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The rent credits should reflect on your docs as a seller concession, and I don't even

use the term rent credit or show a monthly rent credit on the option to purchase,

just the total concession.

The payments go from the T/B to the seller, but you can use an escrow service for

this, but there is a fee of course.

I don't use an escrow service. No need for it for how we structure everything, but

that's up to you.

You don't need an agent to market the property, but that's up to you, and about

how you structure your model etc.

You can't necessarily charge a much higher lease amount either. We normally set

it at the going rent rate, or about what the payments will be at finance.

All Real Estate, like politices (LOL) is local.

It doesn't matter what strategy you want to get into, before you begin you really

need to talk to a local RE attorney. IMO, you should never use a contract from

some other area (state) or any site without running it past a local attorney.

As to title folks, they are in the phone book, you need to talk to these folks and see

what they will do, ask, they will be a good source of information for local


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requirements. Not all are investor friendly, so shop around and don't take the

word of one closing agent as gospil. If you hei a dead end on any issue run it by

the attorney as he or she may convince the closing agent that all will be well in

some cases. Good luck

Title companies are insurance agencies basically, providing title insurance. These

agencies are often owned by attorneys, but an agent does not need to be an

attorney. If a title company is owned by a non-attorney agent, they will have some

relationship with a local attorney to cover the bases of the business.

An escrow closing is usually done by an insured closing agent or an attorney.

Lenders may also close thier own loan transactions involving sales and usually

have an insured closing letter, a gurantee by a title insurance company to cover

any errors or ommisssions in such closings. I use to close my own loans and

obtained title coverage.

An escrow is simply money held in trust, Real Estate Brokers may have escrowaccounts and may close transactions but that is rare today due to compliance

issues, liability assumed and the fact that the services are affordable.

Attorneys may also close transactions and they will also have escrow accounts to

hold money in trust to facilitate a closing. Title insurance will generally be afforded

for an attorney closing as they are also insured and bonded as attorneys and meet

such requirements.

You should look to an attorney or title insurance company in your area to provide

closing services for you. You could have a situation where an attorney is willing to

close a transaction yet a title insurance company will not insure the closing but


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will provide title insurance. In such a case, it is the attorney's professional

coverage that may cover the attorney services. This is probably rare now but could

be arranged if allowed under state law.

So, as an investor, you should have choices, however, when you sell and the buyer

obtains a loan, that lender may require how, where and when such loan is to be

closed.

Talk to TI folks and RE attorneys in your area to see what best fits your needs.

Call the local Board of Realtors and ask them who thier attorney is for the Board,

they might give other names, maybe thier past attorney if they'd rather not say.

Call title companies and ask them. Call the Bar, they will give you a list of RE types.

You can also ask RE Brokers.

Some attorneys may say they can't help, that probably means that if they are on

retainer with a broker or Board, they may feel that any matter that comes up with

you may result in a conflict of interest.

Interview with several, it should be free, you'll get thier sales pitch but figure out

who you click with best and assess thier experience in the area.

You can live in fear or you can step up. Talking to a RE attorney is a good idea. The

best idea is call your state Real Estate Commission and meet with a compliance

officer and tell/show them what you want to do regarding lease options. Then you

can determine from the get go if you are in compliance or not


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Originally posted by Robert Burns:

I've was recently sent a complaint by my state real estate commission board

regarding my lease option work. I met with them and reviewd my lease option

agreement and explained to them that I was simply "assigning my rights in mylease option agreement" and receiving an assignment fee for such. It is LEGAL to

assign your rights in a contract. It's done all the time in all types of businesses.

Robert I love this soooo much. Face the fear. Do the right thing. This is a valuable

business if you do your due diligence, and that includes investigating the local

Realtor board.

This is my explanation to real estate agents and brokers.

"I have looked into this matter with my attorney. I am entering into agreements as

a principal and I do not act as an agent for a fee or commission.

Anyone can assign an interest in a lease, an option, or a bill of sale for a fee,acting as a principal."

Then ask them,

"If you have a listing about to expire, for whatever reason, please call me, I may be

able to help."

Lastly, I place this on my Letter Of Intent to Lease and To Option:


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"Please be advised that the undersigned is interested into entering into a Rental

Agreement and Option to Purchase Agreement. Please be advised that I am a real

estate investor that intends to enter into the agreements contemplated for the

purpose of investing in real estate as a going business concern. I now provide you

with this Letter of Intent. "


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There are two major problems with lease options the way they are being taught in

seminars:

The percentage of tenants who fail to buy the home is scandalously high

There are numerous other serious, potential ethical and legal problems

High failure rate

Claude Diamond runs his lease-option business in a way that I object to, althoughit's pretty typical. He says about 50% of his lease-option tenants are unable to

exercise their options. That means that about half the people who do business

with him as lease-option tenants end up thousands of dollars poorer as a result

when they walk away from their large front-end payments and year or two of

above-market monthly rent payments. These are people who entered into the deal

in the hope of becoming homeowners and leave less able to become homeowners

than they were when they first met Diamond.

That reminds me of the trade schools whose students pay thousands of dollars

tuition, then a high percentage of the "graduates" of the school cannot find a job

in the field for which they were trained. When I voiced my objections about the

high rate of his lease-option tenants being unable to exercise their options,

Diamond asked, "Whose responsibility is that?"

In other words, if a lease-option tenant pays Diamond thousands of dollars for the

lease option, then loses it all because they are unable to exercise the option before

it expires, that's the tenant's problem, not Diamond's, even when it occurs half the

time. I disagree with that attitude toward such a high failure rate. And I give the


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general advice that whenever you deal with anybody in any field of endeavor, you

should make the working assumption that the person will treat you the same way

he treats other people.

Other lease-option practitioners have failure rates as high as 95%. That's not right.

The lease-option tenants are typically young couples who cannot afford their

dream of home ownership and are convinced that a lease option is a back door to

owning a home. In fact, the vast majority lose the thousands or tens of thousands

of extra dollars they shell out, above and beyond what a lease would have cost.

When the lease option is over, they are far less able to afford a home than when

they started. I suspect many permanently lose their ability to buy a home because

they fell for the false promise of the lease option.

There is no question a lot of real estate investors are making a lot of money from

lease options. But most of it is dirty money earned by scamming young couples,

not by finding a need and filling it, the age-old legitimate path to profits. Rather,

this is the predators' way: a fool and his money are soon parted, so devote your

life to finding fools and taking their money.

The tenants do not exercise the options for two reasons:

The option is not in the money

The tenant's financial difficulties that prevented him from buying a home to begin

with were never fixed

'In the money'

An option is in the money when the option price is less than the current market

walue of the property. You would not exercise unless that were the case. In


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probably the vast majority of cases, the landlord sets the option prices in the lease

option so high that the option price is never likely to be less than current market

value. Furthermore, on the rare occasion when the option price turns out to be less

than market value, the landlord just reneges. In the stock market, they have

procedures to prevent that. No such procedures exist in real estate.

Can't qualify

Lease options are targeted at people who want to own a home but who lack the

cash down payment, credit, and/or income to qualify for the mortgage. In virtually

all cases, there is little reason to believe that will change during the two or three

years the option lasts.

So by making a lease option that is never likely to be in the money to a person or

couple who is not likely to qualify for a mortgage so they can exercise the option,

the lease-option scammer does a deal that he is pretty certain will result in his

pocketing $10,000 to $20,000 of the tenants money and leave the tenant out in

the street with nothingno benefit from having paid all that extra front money

and rent.

Legal problems

Lease options are explicitly named in numerous laws and legal documents as

triggering events. They trigger almost all mortgage due-on-sale clauses. They

trigger reassessment for property-tax purposes in California, thereby wiping out

the protection California homeowners normally get from Proposition 13.

Another problem is the legal doctrine of substance over form. It is possible to do a

lease option that is clean. But the various gurus advocate doing lease options in a


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way that arguably triggers the federal income tax doctrine of substance over

form.

That doctrine says that what you call something does not necessarily determine

what the law will regard it to be. Calling a lease option a lease option does not

mean the court will treat it as a lease option. In fact, I believe they will treat most

guru-designed lease options as land-contract sales in substance. The legal

implications of such a determination are amazing in their number and seriousness.

You could have a tax-free exchange invalidated. You may find that you are unable

to evict the tenant. IRS may say that all your lease options were installment sales

and that you must pay overdue tax and penalties on them, tax that will be inflated

by the typically inflated option prices

Here are some issues that will get you in trouble, give you a bad reputation,

maybe jailed as some "investors" here have been;

The SAFE Act


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Tenant/landlord law

Consideration given for a valid contract

Preditory lending/financing and transactions

Fraud, puffing the deal

So far, while I know you want to make as much as you can, you're headed down

the road of scammers, step back, get away from guru strategies and give yourself

time to study the basics. RE is an area where you can easily get bad advice, wrong

answers and be lied to by others, especially when they have a vested interest

selling you crap.