There are many opinions regarding whether being a renter or owner of one’s residence is the correct decision in New York. Many factors, including one’s economic situation, must be considered in whether to rent or buy real property. One additional possibility is renting the property with an option to buy. This post will discuss the legal issues related in entering into such an agreement.
Initially, there must be an agreement with the owner of the property regarding the terms of the rental. This is commonly documented in the form of a lease. The lease will delineate the monthly rental amount as well as the lease term and other provisions. If the parties agree, an option to buy the property can be included in the lease, or as a separate agreement.
The most common arrangement is to provide the renter with the option to purchase the premises at a set price during the rental term, or at the expiration of the rental term. If the renter exercises her option to buy, then the attorney for the property owner should prepare a contract of sale to be executed by all parties. The signed contract of sale is necessary should the potential purchaser need to apply for a mortgage loan to purchase the premises. Any institutional lender will need a copy of the fully executed sale contract in order to process a standard loan application. In addition, a down payment, typically in the amount of ten percent (10%) of the purchase price is usually also necessary to obtain a traditional bank loan. The lending institution requires proof of the down payment deposit into the escrow account of the seller’s attorney.
It is important to note that a down payment for the purchase is not the same thing as the security deposit for the rental. Most leases require that the tenant deposit a certain sum, usually one month’s rent, in case the renter damages the premises during the rental term. The security deposit is then returned to the tenant after he vacates the property and leaves it in good condition. A down payment comprises funds that a purchaser delivers when signing a contract of sale, and is used towards the purchase of the property. In the event that the closing does not occur due to an event such as the purchaser being unable to qualify for a mortgage loan, the down payment may be returned to the buyer pursuant to the terms of the contract. In the alternative, the seller may obtain the down payment in the event that a purchaser defaults under the contract of sale.
The parties may also agree to use some portion of the rent paid by the tenant towards the purchase price. Any such agreement should be specific and in writing. For example, the parties have a three year lease with a monthly rent of $4,500.00. The parties can agree that if the tenant exercises her option to buy, then the rent paid should be credited at the closing of the sale towards the purchase price. It is important to limit such credit, however. Let’s say that the purchaser does not close her purchase of the premises after three years of renting, but continues to pay rent to the owner. Is this additional rent to be credited towards a potential purchase? Experienced counsel should prepare documents making clear limitations on rent being credited towards a purchase price.
Another issue may be if the purchaser exercises his option to buy, but then fails to pay his rent and fails to close the purchase of the property. The owner and landlord may then be in a position where they must cancel the contract of sale, and then evict the tenant. This must be done pursuant to New York law regarding scheduling a “time is of the essence closing”, and the contract must then be cancelled. If the tenant is then in default under his lease, then an eviction action needs to be commenced in the proper landlord-tenant court so that the property can be vacated and marketed to other buyers.
Our firm has extensive experience in handling “rent to own” transactions, and looks forward to our blog readers’ inquiries.