Utlizing The Lease Option | A Valuable Tool
An important resource that every house flipper should know how to utilize is the lease option.
When you flip a house, after you buy and rehab a property, you should always try to sell it to a buyer. However, life does not always play out ideally. Sometimes you might not be able to sell a property as quickly or at the price you had originally hoped.
If something like this happens, this does not mean that you should simply cut your losses and sell at a price that won’t earn you any money. Instead, you should find someone who is willing to agree to a lease option.
What Is A Lease Option?
To begin a lease option, you will start by buying and rehabbing a property. Then, instead of selling right away, you lease it out to a tenant. This agreement consists of two parts: the lease and the option.
The lease states that the tenant must pay a monthly rent to live in the property for a certain amount of time. However, a lease alone is not all you want as a house flipper. Your ultimate goal is to sell the property and to move on to another investment. That brings us to the second half of the agreement.
The option is the piece that allows the tenant to buy the property for after the lease period is up if they so desire. They will have to pay you what is called an option payment, or option consideration. The option payment is paid up front and is given back to the tenant if they do in fact decide to buy the property. However, if they don’t buy the house, you can keep this money.
For example, if the property is valued at $200,000, the option payment would be around $10,000 to $20,000.
This option payment essentially acts as protection incase the tenant changes their mind, so you aren’t back where you started.
What Types Of People Are Ideal Candidates?
The types of people that will typically consider a lease option are people who have just gone through a financial hardship like bankruptcy or foreclosure. While their credit is not good enough to get a mortgage on their new home, they ideally do have a regular income. If they have enough money to pay for the option payment up front and then the monthly rental fees, they might be the perfect contender for a lease option.
While the tenant cannot pay for the complete price of the property up front, they do wish to possess a home of their own. If all goes to plan, you and the tenant will get what you both want, the property in their hands.
Make sure you do not simply find a person who wants to rent a home. As a house flipper, being a landlord is not your main objective. Keep in mind that your end game is selling the house. This is why it is always important to get the money for the option up front.
Sandwich Lease Option
Once you’ve mastered the basics of the lease option, you can take this strategy to the next level and try a sandwich lease option. Instead of having two parties involved (you and the tenant you are leasing to), the sandwich lease option has three.
First, instead of buying a property, you agree to a lease option from the seller. You will pay a certain amount of money per month and have to pay an option payment up front just like your tenants did in a basic lease option.
Then, you will sublease the property to a third party who will owe you an option payment and a monthly rent. The trick to making money is lease-optioning the house out for a higher price than you are paying to the original owner. You can increase the price of one, two or three of the following pieces: the monthly rent, the cost of the option payment, and the purchase price.
If you are lease-optioning a property from the original buyer at:
- $1,000/month for Rent
- $15,000 for the Option Payment
- and $200,000 for the Purchase Price
You could sublet the property to the third party for:
- $1,300/month for Rent
- $20,000 for the option Payment
- and $225,000 for the Purchase Price
The different between each price will be your profit. Just always make sure that the length of your lease term is longer than that of the term that you are subletting out to.