If you've ever been confused about the difference between a contract sale and a rent-to-own purchase, you're not alone. Contract sales are often referred to as seller-financing or land contracts, while rent-to-own deals are often called lease-purchases or leases-with-option sales. Although the two scenarios may seem similar, there are several factors that differentiate these types of home purchases.
Transfer Of Ownership
Depending on the details of the agreement, a contract sale typically allows a buyer to take legal ownership of a house, leaving the seller as a lien holder. Essentially, the seller, rather than a mortgage lender, provides the buyer with a home loan. The purchaser makes monthly payments to the seller until the balance of the loan is paid off. In a rent-to-own contract, however, the buyer only rents the home for a set period of time, until he can obtain financing from a lender or until he can pay the seller for the house in cash.
Buyers of both types of situations may wonder who pays for home repairs. Since the purchaser in a rent-to-own scenario remains a tenant until the lease period ends and the home is paid for, the seller is responsible for repairs. In a contract sale, the buyer becomes the house's legal owner with all the rights and responsibilities that accompany homeownership. Leaky faucets, broken windows and roof repairs become part of the buyer's obligations in a seller-financed or contract sale purchase.
A positive benefit of both types of contracts is that a buyer can make payments resulting in increased home equity. In a contract sale, the seller amortizes the buyer's monthly payment much like a traditional mortgage; the payment pays down the loan's interest and principal. Typical lease-purchase agreements set aside part of the tenant's monthly rental payment to be used towards an eventual down payment. However, the credit doesn't occur until the tenant finds a lender, gains loan approval and closes on the house.
As with anything, there's some risk involved in alternative home purchase agreements. Buyers of seller-financed homes usually have the option of selling the home to avoid default or foreclosure. If a sale occurs, a buyer could retain the home's equity, depending on the house's sale price. In a rent-to-own situation, however, there's no option to sell because the tenant doesn't own the property. Rent-to-own deposits are usually non-refundable in case of default.
- MSN Money: Is Seller Financing Right For You?
- The Mortgage Professor: Lease-To-Own House Purchases
- The United States Department of Housing and Urban Development. "Example of a Residential Lease with Option to Purchase." Accessed April 15, 2020.
- Quicken Loans. “Rent-To-Own Homes: A Complete Guide.” Accessed April 15, 2020.
- The United States Department of Housing and Urban Development. "NSP Lease-Purchase Toolkit." Accessed April 15, 2020.
- Federal Trade Commission Consumer Information. "What You Need to Know About Rent-To-Own Home Deals." Accessed April 15, 2020.
- USA.gov. "Homeowners and Renters Insurance." Accessed April 15, 2020.
Meribeth Phipps has been a real estate broker since 2000, specializing in residential new home sales. She holds a bachelor's degree in business and marketing.