Lease-Options Are Finally Getting the Respect They Deserve

By Barry McGuire

As a real estate strategy, lease-options (rent-to-own) are making a cyclical comeback in the real estate investment community. In the past, lease-options have been sadly misunderstood. Lenders, tenant watchdog groups and the media had nothing but negative comments. “Unscrupulous landlords”, “win-lose”, “set up to fail” and “almost criminal” were some of the descriptors applied to the lease-option strategy. Lease-options are not a new strategy, so why isn’t the current interest in lease options bringing the same negative reaction?

It’s all about education. Lease-options are finally getting the respect they deserve and headlining at various real estate investment groups across the country. Investors across the country are learning how to find, qualify and help tenant buyers purchase their dream home. Investors now understand that lease-options are a valuable strategy they can learn and put into profitable practice. Win-win is the order of the day.

I believe the perception of lease-options today is similar to the situation where any educated investor has purchased their first buy-and-hold property. Friends and coworkers counsel against such silliness, predicting the investor s life will be ruined by “tenants and toilets”. Buy-and-hold investors learn how to purchase great properties in great areas and fill those properties with solid, well-qualified, pay on time tenants.

Even though lease options are substantially more complicated than a basic long-term buy and hold, like all strategies with solid underpinnings, the lease-option strategy is capable of being sliced, diced, analyzed and set up in a logical, checklisted series of steps. It s a senior strategy where your tenant buyer is someone who can’t immediately qualify for a mortgage. Of course, there will be issues and problems to overcome.

Investors employing the lease-option strategy are generally those expanding from the long term buy-and-hold strategy, a pre-requisite we strongly recommend. These investors are willing to go through the numerous steps that it takes to become successful at lease-options. They are having such success that lenders and mortgage insurers like CMHC are now much more welcoming when investors show up to apply for a mortgage with their happy tenant buyer. Lease-options have come a long way in the last few years.

As the name implies, you need, at the minimum, a lease (rental agreement or rental contract) and an option for your lease-option supporting documentation. If you already own and rent property, you already have a lease that you think is satisfactory. Any landlord/property owner reading this article who is renting out their property on verbal terms only, without a written lease, should stop reading right now! You are not ready for lease-options!

For those more sensible landlords/property owners, the need for a lease document and an option document sounds straightforward and, at its most basic, it is straightforward. Assuming that you have a strong lease document that has worked well for you in the past, then my coaching is to continue to use that document. Next, you need the option document. For this document you can speak with your fellow investors and, of course, consult with a real estate lawyer knowledgeable in the lease-option area. REIN Members can also access the website to look at lease-option material and other educational components.

Although a lease and an option are the basic building blocks of any lease-option strategy, in my legal practice, other documentation shows up. The third document that I strongly recommend is a Certificate of Independent Legal Advice. When an unhappy tenant can’t exercise his option and sees his option money disappearing, inevitably that tenant tries to characterize himself as a buyer who has paid a deposit rather than a tenant with a chance to buy.

Your Certificate of Independent Legal Advice is provided by, obviously, a lawyer other than your own lawyer. I would note that the independent lawyer must review all the documentation with the tenant buyer and explain to them the circumstances and operation of the lease and the option and, most importantly, that he is a tenant with a chance to buy. He is not a buyer under any form of purchase contract.

Other documentation that I see are schedules to the option that include coaching and credit repair miami/acquisition comments all designed to help your tenant buyer succeed. Sometimes other schedules are used that specify how regular option money payments will be made.

There are two schools of thought on whether the lease and option should be combined in one document or be completely separate. Although many investors have successfully used the combined lease-option, I come down on the side of separate documentation. Your tenant may always be a tenant. He may never be able to repair or establish credit that would enable him to qualify for a mortgage, exercise the option and actually purchase the property. And, during the tenancy phase, you may have any of the issues that come up with tenants.

If those issues escalate to the point where you are in court or in front of a tenant dispute resolution board, then I believe that having a separate lease that contains no mention of the option is a much cleaner way to proceed. That doesn’t mean that the unhappy tenant might not mention that there is an option but it is far easier for a judge/adjudicator to deal only with lease issues when that is the only document in front of the court/board.

Finally, it is important to understand a couple of legal principles. Of course I think legal principles are important, I’m a lawyer!

In any legal battle, the court will strictly construe the conditions to the exercise of an option. The party seeking to exercise the option should adhere precisely to the terms that are laid down in the document conferring the option. In general, this may not concern you where you are always the landlord and not a tenant buyer seeking to exercise the option. However, in what is referred to as the sandwich lease sub-strategy, you may be the tenant buyer in a lease-option from a current owner (where you plan, in your turn, to lease-option the property to the ultimate tenant buyer). So, for you, as an optionor, and to coach win-win to your tenant buyer, the safest course of action for any party seeking to exercise an option is to ensure that it complies to the letter with the provisions of the option agreement.

‘Contra proferentem’ (I had to slip in one Latin phrase) is the second legal principle and something you must consider when putting together your package of lease-option documentation. The contra proferentem rule states that when any document is disputed, the court will construe the document against the person who prepared it. In other words, since you are putting together a package of documentation, that documentation must be clear and understandable in all aspects.

If a phrase or clause or issue is muddy and up in the air, any court will take the interpretation that favours your tenant buyer. That’s why it’s ultra-important to not only have documentation, but appropriately drafted documentation. Get documents reviewed and approved by an expert real estate lawyer.

This is a business, folks. It takes time and money to learn, understand, and properly paper this effective and profitable senior strategy called lease-options . Are you up for the challenge?

Barry McGuire is a veteran real estate lawyer, investor and best-selling author, based in Edmonton, Alberta. His Focus Series Workshops are well received by his students and his strategies and money saving advice put dollars into the pockets of the investors that use them. You can reach Barry at B.McGuire@rmlo.com.
He will be discussing this strategy in more detail, as well as Joint Ventures and Agreements for Sale at the May 10^th REIN Workshop in Edmonton. Contact the REIN office for more information at info@reincanada.com or 1-888-824-7346.