How Does Rent-to-Own Work [2024]

If you can't afford to buy your own house or apartment right now, but you want to in the future, then you might be considering an option called "rent-to-own." In this model, you would sign a rental agreement that provides you an opportunity to purchase the property after fulfilling the rental contract.

But how does rent-to-own work? And is it really a more affordable option? In this article, we’ll get into the details of renting to own properties, including how it works, different types of contracts, the pros and cons, and some insider tips.

Let’s get started!

Rent-to-Own Leases

What Are Rent-to-Own Leases?

For renters looking to purchase a property, rent-to-own leases or contracts allow you to apply the rent you pay on a monthly basis towards the final purchasing price of your new home. Unlike a traditional rental agreement, in which all of your rental payment goes to the landlord, a rent-to-own lease allows you to make payments toward purchasing the property at the end of the contract.

In some rent-to-own contracts, renters may have to pay 1% to 5% of the home’s value as an option fee. But, this fee is not always required. Also, if a renter is not interested in purchasing the home at the end of the lease, they can lose the extra funds paid out to the homeowner from the contract.

How Does Rent-to-Own Work?

While individual cases may vary, the renter usually agrees to lease terms following a specified duration, typically 1 to 3 years. They’ll then pay the non-refundable 1% to 5% of the home value, or the option fee, upfront. This fee is for the down payment on the home.

Once the renter inhabits the home, they can continue contributing toward the down payment of the house by paying slightly higher monthly rent. The price of the home is locked in with the rent-to-own contract, so the renter can purchase the home once the rental lease expires.

Types of Rent-to-Own Leases

While rent-to-own contracts follow the same principles, there are two primary types of these contracts you may run into; a lease-option or a lease-purchase agreement.

Lease-Option Agreement

If a renter must pay the option fee upon signing the contract, this is a lease-option agreement. One of the benefits of this type of rent-to-own arrangement is that the renter typically has more negotiating power regarding the amount of the option fee.

Once the contract begins, renters can pay rent credits or additional payments throughout the lease. The rent credits are used towards the down payment of purchasing the home. At the lease contract expiration, renters can negotiate with sellers on the final purchase price.

Lease-Purchase Agreement

If the renter pays a portion of the rent each month toward a home's down payment, this is known as a lease-purchase agreement. The primary difference between a lease-purchase and a lease-option agreement is that the latter gives you the option not to purchase the home at the end of the lease.

When to Choose Lease-Option vs. Lease-Purchase

If you’re trying to decide between a lease option or a lease-purchase agreement, you’ll want to pay close attention to the current market.

Paying for an appraisal at the end of the lease may be better if home prices are relatively stagnant. Alternatively, if housing prices continue to rise, locking in a rate ahead of time is probably the better option.

How to Find Rent-to-Own Homes

Finding rent-to-own leases is a bit trickier than looking for a house or an apartment. You can certainly start with listing sites like Zillow, as Ben Sund explains in the video below. However, in these cases, you may find it expedient to consult a specialized real estate agent in your area. Check out these great insights on the different ways you can find listings for rent-to-own leases:

Rent-to-Own Pros and Cons

Like most significant real estate decisions, rent-to-own contracts have pros and cons. Looking closely at both sides before deciding what is right for you is essential.

Pros of Rent-to-Own Agreements

One of the major benefits of entering a rent-to-own contract is the ability to save up for a down payment while building credit and home equity simultaneously. Here are some of the other significant pros of renting to own.

• No Property Taxes: Landlords are responsible for property taxes while you are renting.
• Control Over Your Home: Once you move in as a renter, the home is essentially yours.
• Grow Your Equity: Appreciation happens quicker in rent-to-own contracts.
• Move-In Quicker: Renters can move in within one to two weeks after signing the documentation.
• Not a Credit-Dependent Decision: Landlords establish the creditworthiness of renters through the lease duration.
• The Investment: When you rent, you are putting money in your landlord’s pocket, but with renting to own, your money is going toward purchasing your future home.

Cons of Rent-to-Own Agreements

In addition to the long list of benefits of rent-to-own contracts, there are also some downsides. Here are some of the most common to consider.

• After Purchase Property Taxes: Renters will take on property taxes before eligibility for tax breaks.
• Maintenance Responsibilities: Renters may be responsible for maintenance costs during their lease.
• Losing Home Value: The home's market value may drop after the rental period.
• Penalties for Breaking a Contract: Some contracts may have financial penalties.
• Non-Refundable Option Fee: You will lose your option fee if you decide not to purchase at the end of your lease.
• Higher Interest Rates: There may not be low-interest rates in rent-to-own contracts.
• Higher Monthly Payments: Standard rentals will have lower monthly payments because additional funds aren’t going toward a down payment.

6 Rent-to-Own Tips

Before you lock yourself into a rent-to-own contract, here are a few insider tips you should follow.

1. Choose the Best Rent-to-Own Terms for Your Situation

Determine whether a lease purchase or lease option suits your current financial situation. Taking the time to assess if your finances can support your rental decision can only help you make a more confident decision.

2. Consult with a Real Estate Attorney

If you’re unsure about the terms of a contract, you should always consult with a professional. A real estate attorney can help lead you in the right direction with your new contract.

3. Review the Contract Carefully

Much like you would any legally binding document, you need to make sure you review the contract thoroughly before signing.

4. Double Check the Fine Print

Reviewing the contract includes double-checking the fine print to understand the details of essential factors such as rent payments and the option fee.

5. Schedule a Home Inspection

Scheduling a home inspection will ensure that you conduct proper research on the home before agreeing to a selling price.

6. Research the Seller

Lastly, always do your due diligence by looking into the seller and their home. Always verify their contract information and the address of the listed property.

Final Thoughts

Since rent-to-own contracts help build credit and equity while contributing funds toward a down payment on a home, this often tends to be an excellent option for those having a difficult time securing a mortgage.

Look! Now, you no longer have to ask, how does rent-to-own work? Instead, you can begin researching available contracts in your area that fit your rental budget.

Rent-to-Own FAQs

What's the Difference Between Rent-to-Own and a Mortgage?

When you mortgage a home, you must cover the entire down payment upfront and the monthly mortgage prices. However, renting to own differs because first, you rent the house, and once the lease expires, you have the option of purchasing and paying off the remainder of the mortgage.

Is Rent-to-Own a Good Idea?

Rent-to-own can be a great option for people to get started in real estate because it can help you lock in a purchase price early. Nevertheless, you must be mindful of the fees associated with your rent-to-own lease to make sure you aren't overpaying.

Is It Cheaper to Rent or Own?

The costs of owning a home are usually higher than renting. However, purchasing a home means growing equity, which may enhance your financial standing overall.

How Much Money Do You Have to Put Down on a Rent-to-Own Home?

The option fee, which serves as the down payment of a home in a rent-to-own contract, is not always required but is typically between 1% and 5% of the home value.

How Do You Calculate Rent-to-Own Payments?

To calculate rent-to-own payments, review and understand the rates of the option fee, monthly rent, and home purchase price. If you doubt the calculations presented to you by the leasing agent, consult a real estate attorney before you sign any contracts.

Does Rent-to-Own Build Credit?

Your credit score is unaffected by rent-to-own contracts as these are not reported to credit bureaus. However, there are ways of reporting monthly rent payments to help improve your credit score throughout your leasing period.

Is Rent-to-Own Legal Everywhere?

Rent-to-own contracts are legal, but it’s essential to check out the legality of the details of your agreement based on local laws.

Can You Back Out of a Rent-to-Own Contract?

A renter may be able to back out of a rent-to-own contract, depending on the terms. In some situations, a financial penalty for breaking the contract may be due.