Pay Now, Buy Later: The New Way to Sell Condos and Townhomes?

A recent article in the Chicago Tribune touched on an unusual method homeowners are using to sell condos in buildings which some–but not all–units have already sold: They’re letting buyers lease to own.

A lease-to-own purchase involves a two-part contract: The seller first agrees to rent a property for a set amount of time (the Trib says that’s generally one to three years); after that, the buyer can purchase the home at a preset price.

I live in Chicago, and I noticed starting in about 2003/2004, a number of the condos that had sprung up on the city’s North Side were being offered as rental units. As the market boomed, it was a great way for investment properties to make owners some money: They rented the units to residents, who essentially paid the mortgage, and waited for the market to rise even more so they could sell the unit for an even bigger profit.

Renters were OK with paying hefty rents (ones big enough to fund a monthly mortgage payment) because the rental market wasn’t cheap; Forbes
rated Chicago as the 19th most expensive rental market in 2006.

It was around that time I also noticed that Chicago’s North Side rental
market–once so competitive you had to come into to apartment showings
with a checkbook in hand–suddenly was filled with options.

Prime
location apartments that you never saw on the market had rent signs up
for months; newspaper listings –which locals knew to check the night
they published or forget about even using–were suddenly a useful tool
any time of the week. Prices stopped rising; some landlords started offering incentives, like a month’s free rent or free parking. Presumably, the extra condo investment properties
up for rent had altered the market.

In July 2006, Judith Roettig, executive vice president of the Chicagoland
Apartment Association, told Chicago magazine the rental market was on the upswing. "Renting went through a tough time the past four or five years," Roettig says.
"A lot of the people who used to rent were
inspired to purchase." Rental unit vacancy rates rose to near 20 percent in areas of the city according to Chicago.

However, when the home selling prices first started to dip, some landlords panicked and put their investment units up for sale as soon as their residents’ leases ran out. Some sold early and did well. Others held on to their properties, hoping the housing decline would be short and swift. (We all know how that option turned out.)

And, as the rental market had gained more vacant units, it had lost pricing power: So those condo owners are having a harder time than ever finding renters willing to pay the amount that would cover their mortgage.

Which is why lease-to-own deals may help some property owners. Still, the lease-to-own option is a risk; there are no guarantees that the market won’t improve, and if you lock a buyer into a two-year lease today with the promise of a selling price based on today’s market, you may lose out if the market turns around in 24 months. Which it could.

It’s more likely a year-long lease will benefit both parties. The renter gets to avoid that "I’m throwing my money away" feeling; the seller gets a guarantee that the property could sell for around a certain price.

In addition, some of the rent is often applied toward the downpayment, the Trib says. Even if the owner charges an option fee to take the property off the market, the 1 to 2 percent it would be is still much less than a down payment, and may also be applied to the total purchase cost. Plus it gives buyers time to save and beef up their credit, if need be.

But there are some drawbacks–which are similar to the advantages of a lease-to-buy situation. You’re locked in. Sellers can’t put the home on the market, unless the buyers, at the end of the lease, can’t prove the creditworthiness or cash to buy it; and really, they don’t have to buy it–they just get first crack at it.

That said, those potential buyers are still helping the seller fund the mortgage–which is huge. Those investment types didn’t get much help from the recent foreclosure
avoidance plans, such as Hope Now, which said the assistance would only be offered to primary
property residents.

So a little extra cash may mean the difference between waiting for the market to turn around, and waiting for the bank to close in…