Putting a rent to own deal together is not easy. There are a lot of moving parts and with that comes a higher risk of something going wrong. A rent to own lease option is typically used to put someone into a home for which they do not have a sufficient down payment – or credit history – to purchase it themselves.
As an investor, once you qualify the tenant and the property, you purchase the home and the tenant leases it back from you for a set period of time. In order to ensure he has the first right of refusal when you sell it, the tenant provides consideration in the form of a purchase option, and a contract is put in place to protect both parties.
From your perspective, your focus is not only on securing good tenants and a good property, but also minimizing all those other things that could go horribly wrong. This could include factors like having to evict the tenant for non-payment of rent, and avoiding lawsuits if the tenant wants to break the agreement and take his purchase option back.
In my experience, there are two really big risks that come with rent to own condos.
1. Lack of control over condo fees
When you are calculating the rent to own monthly payment, you need to factor in all those expenses in order to determine what that payment amount should be. So you look at mortgage costs, insurance, property management, your own returns and so on.
But if you have a condo, you are subjected to those infamous “condo fees’ which comprise all sorts of common expenses that are beyond your control. These additional expenses could include special assessment fees for general repairs, increased property management or taxes, or administrative fees.
The point is you cannot control the fluctuations in condo fees, and could end up paying for increased costs out of your pocket. Condo fees can also act as a strong deterrent to new buyers if you had to quickly sell the place. This is especially true in older condo developments where condo fees can rival the cost of a mortgage.
2. Sudden market value decreases
The second big risk you face with rent to own condos is a sudden decrease in the condo market value. This can happen with high-rise apartment-style condos that are typically the arenas for real estate speculators.
If you purchase a rent to own condo for $300,000 and the market drops by 10% over a three year term, that’s a decrease of $30,000 and your tenant may not be able to afford to purchase your unit at higher agreed-to price.
Sure, you could argue that he’s now in default and you can kick him out and keep his option to purchase fee, but that is mean-spirited and a lot of hassle, and you will lose money anyway.
I discuss these risks in further detail in my article on why I don’t invest in condos here.
That’s why I will not invest in condos, no matter how nice they look. I simply have insufficient control over those condo fees to allow me sleep well at night.