How Does Rent-To-Own Work?

If you’re a renter who’s been hoping to buy a home, you may have heard the term “rent to buy.”  It refers to a legal agreement where you buy a home you’re renting from your landlord.

On the surface, the idea seems simple: A portion of your rent payment goes toward a down payment that will allow you to buy the home you’re renting a few years down the road. The reality, however, is more complicated and poses a number of risks. 

Renters usually pursue rent-to-own arrangements because they have poor credit or don’t have enough money saved for a down payment on a house. While the idea of rent-to-own seems reasonable, in practice, the arrangements may not be in your best interest as a buyer.

The Federal Trade Commission (FTC) says that renters can lose money on rent-to-own agreements that could instead have been saved for a down payment; it recommends you wait until you’ve saved and improved your credit.

We’ll review some of the basics of rent-to-own and the opportunity and pitfalls these arrangements represent.

What does rent-to-own mean?

Rent-to-own is when a tenant signs a rental agreement or lease that includes an option — or requirement — to buy the house or condo later, usually within three years.

Under a rent-to-own agreement, the monthly rent payment would typically include an additional payment that will go toward a down payment for purchasing the home. The lease contract states the tenant's rental payment, how much of the rental payments accrue toward a down payment, and the purchase price of the home.

Example of a rent-to-own contract

Let's say you signed a rent-to-own lease that set your monthly rental payments at $1,450, with $250 of that payment going toward a down payment to purchase the home for $250,000. This would mean you'd accrue $9,000 over three years toward a down payment — or 3.6 percent of the purchase price.

Using the $9,000 savings, you could buy the home using a 3.5-percent FHA loan, or possibly even a conventional loan. As long as your pre-approval in the beginning of the process determined you could afford this, it might be a good deal.

How do I rent-to-own?

A rent-to-own agreement can be between a tenant and individual homeowner, or a tenant and an institutional rent-to-own company (like a real estate investor).

Individual homeowners usually set up rent-to-own contracts for three years, while real estate investment companies often have two-year lease contracts that can be extended for up to four more years after the initial lease term to provide more flexibility for buyers. 

Institutional rent-to-own companies are often publicly traded, so they're subject to a host of regulatory scrutiny that could offer more consumer protection. For instance, their contracts could be more clear about the rules of engagement, how the down payments will be held, and how disputes are resolved. 

Big rent-to-own companies may also have consumer help resources that can help prospective buyers with credit counseling and repair. In some cases, renters could be required to go through credit counseling. Regardless of the owner, it’s advised to exercise the same cautions about renting to buy a house.

Types of rent-to-own contracts

There are two common types of rent-to-buy agreements: 

Lease-option This gives you the option to buy the home, and could have conditions under which you lose that option, say if you’re late on a payment or don’t hit deadlines for notifying the seller that you intend to exercise the option to buy. 

Lease-purchase This option obligates you to buy it, and you could have legal liability and/or lose the premium you paid toward a down payment if you don’t buy the home when the lease expires. 

It’s extremely important that you understand what you’re signing and whether the home is priced right and is in good condition. Most buyers use an agent to help them navigate a home purchase, and that’s good advice if you’re renting to buy, too.

Is a rent-to-own home right for me?

Rent-to-own could be appealing if you're looking to rent a home in an area where you intend to continue living, and if you’re planning to eventually buy a home there. It could also be attractive if you’re struggling to save for a down payment, have less than stellar credit, and need time to build up good credit history while renting.

How to spot rent-to-buy house scams

The process of buying a home you’re renting can be complex, which makes it ripe for scammers who prey on people’s dreams. The FTC cautions against rent-to-own deals, mostly because of the risks involved and the very real potential for scams.

Here are some rent-to-own scams that have been reported by consumers:

Offering a home owned by someone else. In this scenario, the scammer finds a vacant home for rent or sale and advertises it online as a rent-to-own home with their own contact information. They may ask for an application that includes your sensitive personal information that they can use to steal your identity, or they may ask for upfront fees or a non-refundable deposit before disappearing.

Selling a home without disclosing that it’s in foreclosure. When you buy a property, you assume all liens, unpaid taxes and other encumbrances that come with the property. If the owner hasn’t paid taxes in years, those taxes become your responsibility.

Selling a home with undisclosed hazards. Sellers are required to disclose known defects, such as lead paint, asbestos, mold and water damage, among other things. 

Other issues include pricing the home way above market value so you’re paying more than the home is worth, and contract requirements that can cause you to lose your down payment or the right to purchase the home if you’re late or miss a single rental payment. 

Because there is no industry standard template for writing rent-to-own contracts or rent-to-own leases, you should always have an attorney look at a rent-to-own contract or lease. You need to be clear on who's holding the down payment funds, and on specific state regulations and tax considerations.

It’s also a good idea to consult a real estate agent who can help ensure that the home is priced correctly based on other recent sales in the area, and help you line up experts to evaluate whether the house is sound or needs work.

If you think you might be getting scammed, contact your state consumer protection agency.

Pros and cons of renting to own a house

You should treat renting to buy a house the same as you would if you were buying one now, and exercise all the caution and diligence you would as a buyer.

Pros 

1. You won’t have to move twice. The obvious benefit of rent-to-own options is that your housing plans are in place all at once. This works if you don't want or need to move. 

2. You could build a credit history while renting. Rent-to-own could be a good option for people who might have recent credit trouble that they need a few years to repair. Your credit score plays a big factor in the mortgage rate you'll get, which can make a big difference in your monthly payments. Your credit score also helps determine whether you're eligible for a mortgage.

3. You can budget for future payments. Knowing how much you’ll be paying for your home in the future could make it easier to plan financially.

Cons

1. You could be on the hook for repairs and maintenance. Because you’re paying a premium on top of your rent to buy the home later, make sure you understand what you’re getting for that premium before you sign anything. Some contracts may require you to maintain the property and pay for repairs — obligations that usually fall to the landlord when you’re renting.

2. You’ll have to treat the rental as a purchase, even if you opt not to eventually buy it. You’ll want to have the property inspected just as if you were buying it today to make sure there are no major problems that will cost you down the road. This would usually require an independent appraisal to make sure the home is worth what you’ve agreed to pay. You also want to be sure the owners are current on property taxes so you won’t get stuck with that bill later.

3. Your choice of homes is limited. Most homes for sale are not rent-to-own, so you’ll be shopping from a smaller pool of homes that fit that bill. And if you need to move before buying, you could lose your down payment. 

How to find rent-to-own homes

Finding a rent-to-own home is an excellent way to bridge the gap between renting and buying. To find rent-to-own homes, start by searching online listings on platforms like Zillow, search your local housing market or apply for rent-to-own programs. You can also work with a real estate agent who specializes in these types of agreements.

Hire a real estate agent 

One of the most effective ways to find rent-to-own homes is by working with a knowledgeable real estate agent. 

You might be wondering, “Can a realtor help me find rent-to-own homes?” The answer is yes! Here’s how a real estate agent can assist you:

• Expertise in contracts: Rent-to-own contracts can be complex. A real estate agent experienced with these agreements can help you negotiate and understand the specific terms.
• Knowledge of the market: Agents often have access to properties that aren’t widely advertised, increasing your options for rent-to-own opportunities.
• Negotiations on your behalf: Found a home you love, but it’s not listed as rent-to-own? A skilled agent can help present your case to the seller and negotiate a potential agreement.

Contact brokerages 

Real estate brokerages specializing in rent-to-own programs are another great resource. Many of these firms work directly with sellers offering rent-to-own agreements, simplifying your search process. For example: 

• Specialized brokerages may have established portfolios of properties specifically available for rent-to-own.
• Programs tailored to rent-to-own often include direct connections to homeowners willing to negotiate flexible terms.

Search for brokerages in your area, or ask your real estate agent for recommendations. 

Sign up for a rent-to-own program 

Rent-to-own programs cater to buyers who might lack a large down payment or have credit challenges. 

If you’re thinking about rent-to-own because you lack funds for a down payment, you can apply for down payment assistance through one of the 2,000-plus programs offered throughout the country.

Down payment assistance programs are typically run by state and local governments and nonprofit community groups. They’re designed for households who can afford monthly mortgage payments but don’t have enough money to put down toward the purchase.

The U.S. Department of Housing and Urban Development has a state-by-state list of programs that provide assistance in buying homes. A real estate agent or mortgage lender may know about additional programs in your state or local area.

Zillow can help you find creative ways to save up and estimate your down payment.

Use a rent-to-own portal 

Rent-to-own portals are online platforms that specialize in listing properties available for lease-option agreements. These portals work like traditional real estate databases but focus exclusively on this alternative path to homeownership. Typically, these platforms require a small monthly fee to access listings. You can browse a wide variety of homes available with rent-to-own agreements and use filters to narrow your results by location, price range, and property size. 

Things to watch out for:

• Not all listings may qualify as true rent-to-own homes.
• Always verify the terms of any agreement directly with the property owner or manager. 
• Confirm whether the listing is for a lease-option agreement (where you can choose to buy the property later) or a lease-purchase agreement (where buying becomes mandatory).

Explore local markets for rent-to-own homes 

Sometimes, the best way to find a rent-to-own home is by searching within your desired neighborhoods. Here’s how:

1. Drive around: Look for “For Rent” or “Rent-to-Own” signs in targeted neighborhoods.
2. Online property listings: Set up alerts on platforms like Zillow for properties labeled as rent-to-own.
3. Contact sellers directly: If a home has been on the market for a while, consider reaching out to the seller to offer a rent-to-own agreement.

Local real estate markets may also feature hidden gems. For example, properties in pre-foreclosure or those with motivated sellers could be ideal candidates for a rent-to-own arrangement.