Which is better: a deed or a lease option?

Real Estate

A deed contract is also known as a land contract or installment sales contract. It is simply an agreement or contract between the seller of a property and a buyer in which the property is not transferred to the buyer until the terms of the contract are fulfilled. It sounds very simple and it is except for the fact that the seller’s rights become the issue if the buyer breaches the contract.

Various states regulate the Land Contract differently and some states do not allow its use at all. This is not a reflection on the Land Contract, only the thought and experience of legislators in these states.

So the process looks like this: A seller wants to sell a property and, for financing or capital gains purposes, he wants a buyer to pay for the property over an extended period of time. This installment payment technique would possibly reduce your capital gains or, in the financing situation, allow a buyer who cannot obtain financing to live in the property and buy it for an extended period, or until they can obtain conventional financing to replace the property. of the seller. financing.

This type of contract is often used when the buyer wants to know that they are obtaining title to the property while paying money to the seller. The alternative would be for a seller to give the buyer a lease option to purchase the property. In this case, the buyer would only be a tenant of the property and would actually purchase it in the future. In some cases, buyers may not like the control that is lost by not having a deed in their name and may refuse to pay rent in lieu of a mortgage.

The lease option can be a one or two-part contract and is specifically an option agreement associated with a lease. Therefore, the tenant, or potential buyer, leases the property to the seller until such time as he decides to exercise the option and buy the property.

The benefits of each type of contract are that a property can be sold, transferred, or rented to stop the property’s vacancy and the resulting negative cash flow or allow the buyer to enter the property without conventional financing. The buyer has a sense of ownership, so you have to treat the property differently than if you were just a tenant. Both are legal documents that are adjudicated in the court system under contract law. Some lenders may disagree, but both are viable as ways to finance the homeowner, whether or not there is a mortgage on the property.

Personally, I have had experience with both Deed Agreements and Lease Options. I want to give you just one example of the use of each so that you care about one over the other. Some time ago, I was approached by a real estate agent who was the buyer’s agent for a new investor who wanted to buy as many properties as possible while signing a deed on each property. The investor would buy the properties using his credit to obtain the money to finance each operation.

The investor’s end buyers were county employees and many were teachers. It had a simple premise, to buy with financing from conventional lenders and to sell to these buyers who otherwise could not have obtained financing. In a year, get them financed by a conventional lender because then they would not only need “refinancing” and not a new loan. The idea was that it was much easier to get a refinance than a new financing. Sounds almost perfect, right?

The investor was a guy with some money but no experience, so the whole idea was crafted by the investor’s mortgage broker whose interest was to finance the investor and refinance the buyers. The real estate agent’s deal with me was that she would find the properties having previously sold them to the investor, I would go in and buy them below the list as much as possible and she would sell them to the investor at whatever price we could get. presumably fair market value. The investor immobilized the properties until he could obtain financing and resold them to his buyers with only a small down payment.

If you’ve been here before, it’s like a herd of piranhas feeding on an injured cow crossing a stream: the mortgage broker, the title company, the lawyer, the real estate agent, the inspection company, the survey company, the appraiser, the construction or rehabilitation people, other investors who sell, etc. . All of these trades or professions were simply looking to make money from the original buyer, myself, and the novice investor. Of course, none of these non-buyers had any financial interest in the property.

I spoke with the investor after buying and selling a specific property from him and told him my displeasure with the Deed Contract he was using on the first four properties he bought. His mortgage broker suggested that he use them to get the refinance working in one year. But I explained to him that if his buyer didn’t make the payments, he would have to foreclose on the property, which could take time, maybe years in our state.

The mortgage broker argued with me, after all he had already done four properties with this investor so he was an expert and some guru told him it would work. I’m not saying it wouldn’t work; Only, removal of the buyer can be a lengthy court battle. The mortgage broker proceeded to tell me that I was wrong and that foreclosure in this particular county only takes 2-4 weeks.

Now I know that the mortgage broker had no interest except commissions, so I did not argue and told the investor to be careful, especially if the market declined. The investor assured me that the market would continue for the next few years and that it was risk-free. This turned out to be in July 2006 and the market sank by at least 50% of its purchase prices.

Every deed contract he made was in default within six months and last year he called to say that he should have listened. He mentioned that he assaulted the mortgage broker and spent some time in jail (I wouldn’t tell you how much) and that the mortgage broker is now a bartender at a local tavern.

The investor made a total of seven properties before running out of financing ability with his lender. All of his properties went into foreclosure against him because he had the loans in his name, but not until the foreclosure of the buyers began to release the ties they had in the properties: his deed. If you had paid cash for each property, you would have had the same problem of foreclosing to get buyers out. His original agreement with his buyers was for them to pay taxes and insurance, but none was paid as soon as the buyers defaulted.

He had suggested that he rent options with buyers. The difference is that the buyers would be tenants and could be evicted using their lease and their Option to Pay would be irrevocably lost. The Option Consideration is not a deposit, so do not even refer to it as such or you could end up having to return it later.

I have discussed this strategy numerous times, but the eviction process simplifies the removal procedure for a defaulting buyer. The property can be rented over and over again if required, even in a declining market. Some of the most important aspects of this type of contract (without going into great detail) are:

1. Make the lease and option two separate documents,

2. Make a breach of the lease related to the cancellation of the Option Agreement.

3. Do not allow the potential buyer (Option Holder and Tenant) to have the ability to file a Notice of Interest in the public record.

4. Make the lease payment at least as much as the mortgage payment when the buyer finances in the future,

5. Make the tenant responsible for any repairs under $ 2,000,

6. Make the time to remedy a breach reasonable (as required by local laws), and

7. Charge more rent than would be possible by giving the buyer a credit at closing for the surplus; If you close, otherwise you can keep the surplus.

In short, buyers do not like lease options because they lack control of the property if they fail to meet their lease payments. Remember, if they can’t get financing to buy your property, they have no choice but to go elsewhere. The best thing for you is to find another motivated buyer who wants your property. Always consult with a local attorney about the ramifications of a land contract or lease option for your particular situation.

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