FHA Rent to Own Options
There are many future home buyers who are considering rent to own situation with their landlord but would love the option to purchase the home some time in the future.
FHA guidelines permit rent to own contracts when approving mortgages for home buyers who have been renting the home they wish to purchase.
What is Rent to Own?
A rent to own situation is when you enter into a contract with the owner of the home where you rent the home for a period of time and some or all of your rent payments are applied towards a pre-negotiated purchase price.
Does FHA Permit Rent to Own Contract Purchases?
FHA does allow for individuals who are in a rent to own contract to finance the final purchase with an FHA loan. The down payment funds accumulated during the lease period can be used and credited towards the 3.5% down payment requirement.
Typical Rent to Own Contract
A rent to own contract is between the current owner of the home and a tenant who may wish to purchase the home at some point in the future.
Each rent to own contract should include the following:
- Contract term (beginning and end date)
- Any Fees
- Agreed upon purchase price
- Monthly rent payment
- How much each month will be set aside towards the purchase of the home
- Timeline for the tenant to secure a mortgage to purchase the home
- Terms and penalties if either party wishes to exit the contract
It is critical to hire a professional or attorney to review your rent to own contract with the landlord. There are too many stories of tenants finding themselves in a vulnerable situation because they did not fully understand the contract they signed.
There could be language included that can void the contract or reduce your down payment balance. An example is if you are late with the rent payments.
It is also very important to establish a fair purchase price and you should be prepared to walk away from the home in the event the value of the home declines.
FHA Rent to Own Example
In this example, you can see how a rent to own contract purchase will look like when using an FHA loan for financing.
Agreed Upon Purchase price = $200,000
Monthly Rent = $1500 per month
Rent Term = 12 months
Amount of Rent Applied Towards Purchase = $500 per month
After 12 months, you will have accumulated $6,000 towards the purchase of the home. FHA loans require a 3.5% down payment of $7000 towards the purchase of a $200k home. Therefore, with $6,000 already paid to the homeowner, your remaining down payment would be $1,000 with an FHA loan.
FHA Rent to Own Mortgage Guidelines
FHA rent to own qualification requirements are the same as if you were purchasing without a rent to own contract. You can purchase your dream home if you can meet these basic requirements:
- The home must be your primary residence
- 2 year work history – it is okay if you changed jobs
- Fully document your income
- The home must pass the FHA inspection
- You must meet the remaining FHA loan requirements listed here
In addition to the general FHA loan requirements, you will need to provide the FHA lender with a signed copy of the rent to own contract. This contract needs to be dated back to the beginning of your lease term. Entering into the rent to own agreement at the end of your lease period right before you make the purchase is not permitted.
2 Types of Rent to Own Contracts
1. Lease with Option to Buy
When you enter into a lease with the option to buy, you have an option to purchase the home after the lease period ends. Purchasing the home is not a requirement but you would lose the money that would have been set aside for your down payment.
The lease with the option to buy is the most common when the tenant is not sure they want to purchase the home in the future.
2. Lease Purchase Agreements
A lease purchase agreement is when you enter into a rent to own agreement and buying the home at the end of the lease term is mandatory. You need to be sure that you want to purchase the home when entering into a lease purchase agreement.
If you want to exit the agreement before buying the home, you will need to demonstrate that the other party has breached the agreement in some way. An example of this would be if the homeowner did not maintain the property.
Purchasing a Home You are Currently Renting
If you would like to purchase a home that you are renting it can be done even without a rent to own contract. However, you cannot use any of the rent payments as credit towards your purchase.
Tenants who are renting from a relative can purchase the home and receive a gift of equity to help with the down payment.
One of the benefits of purchasing a home that you are renting now is you are familiar with the home and all of its potential maintenance issues. Another huge benefit is you do not have to move since you are already living there.
Benefits of FHA Rent to Own Purchases
Here are some benefits of getting into a rent to own contract and then financing the purchase with an FHA loan:
- You can lock in the purchase price of the home well before you are ready to buy. This helps in a market where prices are climbing.
- It is a great way to begin the journey of being a homeowner if you are not ready now.
- The lease period will allow you for some time to improve your credit scores.
- A portion or all of your rent payments can be applied towards your FHA down payment.
- You do not have to move when you transition from a tenant to a homeowner.
Things to Watch Out For With Rent to Own Contracts
A rent to own situation is not always beneficial. Here are a few things to consider:
- You could find yourself locked into a purchase price that is higher than market value.
- If the home values climb, the owner may look for ways to cancel the contract.
- If you cannot get approved for a mortgage at the end of the lease term, you could lose the down payment money.
- Interest rates could climb by the time you are ready to buy which could increase your monthly payments.
Is an FHA Loan Right for a Rent to Own Purchase?
FHA loans are perfect for a rent to own purchase because the down payment requirement for FHA is only 3.5%. This means you do not have to rent the home for very long before you have accumulated the down payment needed to qualify.
When is Rent to Own a Good Idea?
Rent to own home purchase contracts are a good idea when you know that you want to own a home, but are having difficulty saving up for the down payment. It is also perfect for someone who needs time to improve their credit scores before applying for a mortgage.
What Others are Saying about FHA Rent to Own
Eric Jeanette – “FHA rent to own purchases allows people to easily transition from renting to buying their first home.”
Mashvisor – “This program will help renters who may be low on cash to eventually qualify for a mortgage.”
Lexington Law – “If the value of the home increases during the lease period, then you may be fortunate enough to purchase the home under market value.”