How to cash in on. It s no surprise that a lease-to-own

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1 How to cash in on Home ownership is not always easy to achieve for all Canadians and, for many, a lease-to-own strategy might be the answer. Suzanne Sharma digs deep to find how experienced investors can benefit as well It s no surprise that a lease-to-own option is a viable solution for renters who want to become owners. It allows buyers with a less-than-perfect credit score to reach their goal of home ownership faster. Investors can also reap the rewards of a lease-to-own arrangement, making it a win-win for both. For investors, lease options make their properties more accessible to a Profit for the middleman wider market of buyers, says Andy Santoso, president at Strategic Housing Corp., Vancouver. Sellers also enjoy the benefit of collecting premium rents before selling their properties for a higher price, he explains. The process for breaking into this market is comparable to a buy-renthold investment. The main difference is how the property is advertised. A 30% return on investment (ROI) sounds like a deal too good to be true, but Tony Wong has found a way to make it happen. He acts as a middleman by finding investors to purchase lease-to-own properties and in return, he offers them a 12 15% yield. Wong has been active in real estate investing for five years and in that time has built a network of investors and mortgage brokers. He uses that experience to locate profitable lease-to-own deals and investors to provide the capital. Through a promissory note, he offers these cash investors a certain return, typically 12% for a two-year term and 15% for a one-year term. Through the combination of the sale and cash flow of these lease-to-owns, the total profit is about 30%. The cash investor is guaranteed their share, while Wong acquires the rest. With the way the economy is going right now, many investors are looking for partners and are happy to do minimal work and provide the cash, so long as they re guaranteed a return, he says. Wong is currently involved in three lease-to-own investments, all of which he is on title: a townhouse development at the Pier North in Vancouver, a single-family home in Deep Cove, North Vancouver and a single-family home in Surrey. Purchase prices range from $610,000 to $760,000 and the lease-to-own tenants have agreed to buy the properties at set prices, minimum 12% appreciation for a one-year term. You have to do your research and check to make sure the numbers will work in your favour, he adds. Wong notes that lease-to-own investments offer greater security with positive cash flow and a relatively quick turnaround time in terms of sale. It s a winning situation for all parties involved, he says. The tenant inches closer towards home ownership, the cash investor has a property with a predetermined sale price and Wong walks away with a better return for all his efforts. A percentage of rent goes towards down payment A set price appreciation per year can be agreed Essentials Simply put, a lease-to-own, rent-to-own or lease-option allows a tenant to rent the property with the option to purchase it in the future. The procedure usually takes one to three years on average. During that time the tenant works to improve their credit score, so they can be approved for a mortgage, and saves for a down payment. Two contracts are involved in this agreement: a lease contract and an option to purchase contract. As a tenant, you would pay a nonrefundable option fee which gives you the option, without obligation, to purchase the property at any time during the lease term for a fixed price, says Santoso. Usually, the owner charges a higher monthly rent but a portion of it is credited towards the purchase price, or the down payment. If at the end of the lease term the tenant is unwilling or unable to purchase the property, he loses any equity built up in the property. For this reason, you should be strongly committed to purchasing the home when entering a lease-to-own agreement, says Santoso. The qualifications for renters to enter such an arrangement are similar to the landlord and tenant screening process. 60 canadianrealestatemagazine.ca

2 lease-to-owns A credit check is usually performed and the renter must provide references, proof of income, and information on assets and liabilities. In some cases, you would just need to provide the option fee, security deposit and first month s rent, notes Santoso. Pros and cons The obvious advantage of a lease-to-own is it aids tenants to become homeowners sooner, while they accumulate a down payment and restore their credit. Equity is built with each monthly payment, so tenants have a share in the property. Also, a lease-toown often provides more flexible terms than conventional financing. Cont. p64 Improve your credit score Renters who enter a lease-to-own agreement have the goal of home ownership in mind, but may not have the necessary credit for mortgage approval. Here are some basic tips on how to improve your credit and score that loan. Pay all of your bills on time. Paying late, or having your account sent to a collection agency, has a negative impact on your credit score. Try not to run your balances up to your credit limit. Keeping your account balances below 75% of your available credit may also help your score. Avoid applying for credit unless you have a genuine need for a new account. Too many inquiries in a short period of time can sometimes be interpreted as a sign that you are opening numerous credit accounts due to financial difficulties, or overextending yourself by taking on more debt than you can repay. A flurry of inquiries will prompt most lenders to ask why. However, most scoring formulas will not penalize you if, for example, you are shopping for the best mortgage rate or the best car loan. Source: Equifax Consumer Services Canada For investors, lease options make their properties more accessible to a wider market of buyers canadianrealestatemagazine.ca 61

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5 From p61 However, this option isn t for everyone. The most important consideration is that while a lease-toown is intended to help the tenant attain home ownership, there is no guarantee that they will qualify for financing. Ultimately, it s up to the buyer to decide whether the property is something that he or she can afford, says Santoso. In most cases, buyers should consider a financial plan which may include credit repair, savings, debt consolidation or an investment strategy. Sellers also enjoy the benefit of collecting premium rents before selling their properties for a higher price Many lease-to-own companies work with their clients to best prepare them to qualify for a loan at the end of the lease term. This is accomplished by advising the tenant about healthy credit habits and allotting a portion of the monthly rent towards the down payment. Alex Kluge, relationship manager at Home Owner Soon Inc., Toronto, says about 20% of the clients monthly rent is allocated to the down payment. Another consideration is most companies carry only a small inventory of lease-to-own properties, usually about three, and the tenant is asked to select one of these, notes Kluge. The tenant is restricted to these homes even if the property isn t ideally suited to them, so it s recommended you research the conditions of the option first. Fixed appreciation Investors can also benefit from a leaseto-own. Primarily, they profit from a slightly higher monthly cash flow through a premium rate. Furthermore, the fixed price at which the home will be sold allows the investor to enter the deal with confidence, since they know ahead of time what their return will be. A fixed appreciation model, typically 6% per year, should be utilized, notes Mark Loeffler, investor relations at Home Owner Soon. This is outlined in the option to purchase contract so both parties are aware of what they are agreeing to. The method to get involved in a lease-to-own is similar to any other investment dealing with tenants in that all references and proof of income should be verified. However, it differs slightly in the way it is advertised because renters must understand the terms of the agreement. The common concern of investors in a lease-to-own is it may not guarantee a sale at the end of the term. One possible solution is to choose the tenant-buyer first and allow them to pick their property. This, of course, should be done within reasonable limits. We use a buyer selection program, says Loeffler. We approve the candidate first and then help them find the right house. This is good for many reasons as they can choose the exact house 64 canadianrealestatemagazine.ca

6 they want and stand a better chance of purchasing it at the end of their term. As well, you have a renter from the day you close on the property. This system can take four to six weeks. Approvals take about 48 hours, provided the applicant has submitted their supporting documentation, says Kluge. Once approved, the client views properties with one of the company realtors, who keeps the interests of both parties in mind. Another positive factor for the investor is in most cases the tenant provides a sizable, non-refundable deposit to secure the option to purchase contract, according to Santoso. This mitigates the risk for the investor, since the tenant-buyer is providing equity profit for the investor if he defaults on his option to purchase. Investors who are wary of singlehandedly entering a lease-to-own agreement may get involved through a third party company. This type of investment comes with a lease-to-own agreement signed between the company and the investor. The investor is able to purchase a property by assignment, and doesn t require a joint-venture agreement because the investor still retains 100% ownership. The company then sub-leases the property to a pre-qualified tenant and provides the investor with the option deposit and monthly rental income throughout the term, usually 24 or 36 months, or until the option to purchase is exercised by the tenant, says Santoso. Lease-to-own sample returns Monthly figures Actual figures Purchase price $226,000 Financing information First mortgage $0 Total mortgage $0 Investment Down payment $226,000 Land transfer tax $1,985 Legal costs $1,500 Disbursements (GST + PST) $350 Assignment fee $7,000 Less: security deposit (from lessee) ($4,520) Total investment $232,315 Profit from sale/transfer Sale/transfer price $261,120** Add: exercise of option fee $1,921 Less: remaining first mortgage Less: legal cost to discharge ($350) Less: initial investment ($232,315) Less: security deposit (from lessee) ($4,520) Less: monthly credits to lessee $384 ($9,216) Total profit from sale/transfer $16,640* Gain from monthly cash flow Lease payments $1,921 $46,104 Less: debt service first mortgage $0 Less: property tax ($233) ($5,600)* Less: insurance ($55) ($1,320) Less: maintenance fee $0 $0 Total profit from cash flow $1,633 $39,192 Net profit $36,228 Return on investment (per annum) 8% Source: Home Owner Soon Inc. * Amount rounded ** Based on 3% upfront appreciation and 6% each year thereafter canadianrealestatemagazine.ca 65