Avoid lease-option snafus in home sale

REThink Real Estate

By Inman News Feed
Add Comment Add Comment | Comments: 0 | Posted Apr. 29, 2010

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REThink Real Estate

Tara-Nicholle Nelson
Inman News

Q: We wanted to buy a new house a few years ago, and rented our old house out under a lease-option to a young family at our church who wanted to buy but needed to save some money first. They were supposed to buy the place within a year, but then the husband lost his job. He got a new job, and they needed to save up again. They kept coming up with reasons they couldn't buy, but they also kept saying they just needed a few more months.

Well, here we are three years later and the property values have dropped by about 40 percent from what they were when they signed the lease-option. Now they want to pay a much lower price for it or they won't buy it. We kind of feel trapped and duped by them, like maybe they were stalling just to get a really low price. What can we do now?

A: When the market gets tough for sellers, many see a lease-option as a way to get a premium price for a property, or as a means of getting it sold -- period -- at a time when homes are just not selling.

There are other advantages to lease-options for sellers, too: They are able to delay the realization of any capital gains; they can always take the place back if things don't work out; and generally, lease-option tenants take better care of their homes than "regular" tenants, because they intend to own the place in the near future.

Mindset Management

I don't know whether you were duped or not; it seems like it would have taken these folks -- who don't sound like wheelers and dealers -- an uncharacteristically high level of sophistication to coordinate all of those stories about job loss, etc., to stall for a lower price.

Fact is, though, whether you were duped is neither here nor there at this point. Your focus has got to be on your financial well-being, and how you can wisely manage this asset you now realize that you have back on your hands.

What is more likely is that you simply ended up, like most American homeowners, on the wrong end of the declining market. In your case, however, the double whammy was that you felt "stuck" with these buyers during the decline.

Rather than cutting your losses by going out and finding another buyer, you felt willing or obligated -- perhaps because these folks were fellow members of your church, or perhaps because you also grew to view the place as "their" home -- to allow them to tie your home up for an extra two years.

In reality, though, you were bound to sell the place to those buyers only for the duration of the one-year lease option -- and only for the agreed-upon price. At any time subsequent to the expiration of their option, you did have the legal power to go find another buyer. If you were set on selling the home, that would have been the thing to do -- to attempt to find a buyer who could pay the price you needed.

I'm not one who thinks doing business with friends is an evil to be avoided at all costs; in fact, I represent many of my friends in their real estate dealings and am confident that my emotional ties to them translate into them receiving better service than a stranger could ever provide.

However, doing business with friends is no excuse for you to allow them to run roughshod over your business aims and financial targets for the transaction. As uncomfortable as it would have been, it would have been wise to simply start showing the home to other buyers for sale at the end of that first year. But what's done is done -- now, let go of any animosity you feel and shift your focus forward, on what to do next.

Need-to-Knows

You need to get clear on whether you still want or need to sell. If so, you also need to get clear on what you owe for the property, and if the amount you owe plus the costs of selling the home is greater than or less than the home's fair market value on today's market.

If you are upside down, meaning that your mortgage payoff is less than the projected net proceeds of the sale of your home, your only real options are to hold onto it as a rental property, sell it and write a check to the bank for the difference between what you owe and what you get for it, or to do a short sale.

(Some would suggest that obtaining a principal reduction is also an option, but given that that happens in only about 1 percent of loan modifications, I'm not going to discuss that at any more length.)

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