Are Rent to Own Homes More Expensive?

September 25, 2017 by Marty Orefice | Real Estate, Rent to Own

There is a lot of confusion surrounding the question, "is rent to own more expensive?"

There’s a big misconception about whether rent to own homes are more expensive than the alternative. The confusion stems because the answer is different for different situations.

In this post, we will go over the three scenarios. When rent to own is more expensive, the same price and less expensive.

Are Rent to Own Homes More Expensive?

Rent to own homes are more expensive than outright buying a home. However, people who can buy a home in cash or who qualify for a mortgage and have enough money for a down payment should not rent to own for extended periods of time. Renting to own should be reserved for rare situations, like if you will be purchasing a home once it gets out of probate, but need to move into it now.

Rent to own is truly beneficial for people who are saving up for a down payment or who are working to qualify for a mortgage.

It’s more expensive for those who could purchase because they’re paying for rent before they purchase the home. If you can afford to purchase a home, you should not pay for rent longer than you need to. However, if you cannot afford to purchase a home, and you would be paying rent anyway you are not paying more than you otherwise would have.

Rent to own is more expensive than renting a home if you do not purchase the home. When you rent to own, you always pay an option fee. The option fee gives you the option to purchase the home. If you purchase the home, you get the option fee back. Most people use the money toward their down payment. However, if you do not purchase the home, the seller keeps the option fee. Since the option fee is something extra you paid to be able to rent to own, you have paid more than you would have if you’d just rented the home. Therefore, you should only rent to own if you actually intend to buy the home.

In addition to losing the option payment, you and the seller may have worked out a rent premium situation. In a rent premium situation, you pay a little bit extra every month for rent and when you buy the house, that extra money goes towards a credit off your down payment. In some cases, the seller makes a matching contribution to the escrow account each month. If you do not buy the home, not only does the seller not make the matching contribution, but you lose the extra money that you paid. This, too, costs more than you would typically pay in rent, as you are paying fair market rent plus the premium payment. Therefore, if you do pay a rent premium and you do not purchase the home, rent to own is more expensive than regular renting.

There is a third situation in which renting to own a home is more expensive than the alternative of renting a home and then buying a different one. In some rent to own contracts, the seller and buyer specify the purchase price of the home in the contract. While sometimes price determination is deferred until the purchase is made, it is not always the case. You and the seller need to agree on what the purchase price of the home will be at the beginning of the lease term – long before the purchase is actually made; however, that is merely speculation. If you speculate that the house will be worth more than it is when you purchase the home, you will end up paying more to buy your rent to own home than you would have to buy any other home at that point.

That is not to say that you should purchase another cheaper home instead. What it does say is that you need to weigh your options. If the option fee and premium payments are worth less than the extra money you are paying for the home, it might be cheaper to cut your losses and buy another home. However, if the option payment and premium payments are greater than what you would save buying another home, it is better to purchase the home you have been renting to own. If the difference between the price of your rent to own home and the price of another home for sale is equal to the money you would lose from the option payment and any rent credits, pick the home that you like best.

Are Rent to Own Homes the Same Price?

Rent to own homes are the same price as regular homes if everything goes perfectly. If you are financially not able to purchase a home right now, your only other option is to rent a home and then buy one when you are ready. The only difference between that and rent to own is that, with rent to own, you are renting the home you intend to buy. Additionally, you pay extra upfront in the form of the option fee, but you get it all back when you buy the house.

If you successfully rent to own a home, it is the exact same price as renting a home and then buying one.

Are Rent to Own Homes Less Expensive

When you are not financially able to purchase a home, rent to own is an option that could save you money through two scenarios: rent credits and home appreciation.

Rent credits are a fantastic opportunity for buyers. Sellers know that the more money a buyer has on the line for a rent to own home, the more likely the buyer will follow through and buy their home. Most sellers who opt to allow someone to rent to own ultimately want their home sold. Rent to own is usually not a seller’s first choice. It’s a path to selling a home in a market where homes are not selling.

Rent credits are a way for sellers to increase a buyer’s stake in the home. Rent credits are detailed within the rent to own contract and agreed upon before the lease begins. There are three ways to earn rent credits, but only the following two will save you money.

  1. The seller charges you fair market rent. Every month, the seller puts a portion of that rent in an escrow account. At the end of the lease term, or whenever you choose to purchase the home, the seller gives the money to the buyer as a credit off the down payment of the home. This is the ideal scenario for a buyer. For the seller, it incentivizes the buyer to make the purchase. For the buyer, it makes the home less expensive and the down payment less daunting, which, in turn, also encourages the buyer to buy.
  2. The second option is premium payment matching. The seller charges you fair market rent for the home. Additionally, you and the seller agree on a premium payment you will make on the home each month. For example, if fair market rent is $1,000, you pay $1,100 each month. The extra $100 is put into an escrow account and returned to you, if you decide to purchase the home. The seller than matches the money you paid and puts an additional $100 in the escrow account. In this scenario, you get $200 for every month you lease the home. This option is $100 per month of the lease cheaper – or whatever amount your seller’s matching contribution is – than renting a home and then buying a different one. So, if you lease for 36 months before buying the home you have been renting to own, you saved $3,600 by renting to own.

The other way that renting to own could be cheaper than renting and then buying a home is if you and the seller decide the purchase price of the home at the beginning of the lease and the property appreciates above that amount. If the property is worth more than what you are paying for it, you are saving money because in any other situation the property would be selling for what it is worth, not a speculated amount.

So, Which One is It?

If…

  • You can afford to buy a home right now,
  • You are able to qualify for a mortgage,
  • You do not buy the home you rent to own
  • Or the property depreciates after you sign the contract
  • …it is more expensive.

    If everything goes perfectly…

    • You buy the home for what it is worth,
    • No rent credits or premium payments were made
    • and the property is worth what you are paying for it

    …it is the same as renting a property and then buying a different one at the end of the lease.

    If…

    • The property appreciates above the set price and you buy,
    • Or you and the seller establish rent credits or matching premium payments and you buy

    …renting to own a home is cheaper than renting a home and then buying a different one.

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