As you think through the process and investigate the potential to become a homeowner, you may see opportunities arise (and more in the next few years) to do a rent-to-own property purchase. Basically, the owner is willing to accept you as a tenant with the option to purchase the property in a couple of years. This may seem like an enticing and great opportunity, but generally, it isn’t. They’re typically a very bad idea for buyers, and here’s why.
First, most of the rent-to-own deals are offered by savvy investors whose purpose is to maximize their profit by selling homes to inexperienced and generally non-creditworthy buyers. That means you, as the buyer, are getting a less-than-stellar deal — many times, much less than stellar, so the seller/owner can make an outsized investment profit on his risked capital.
The reality is that you are probably looking for a rent-to-own deal because you can’t get traditional mortgage financing, whether that's due to bad credit, having too low an income, or not having a downpayment. This means instead of getting a long-term, fixed rate bank mortgage at a very low rate, you are effectively paying a very high interest rate so the investor/seller can profit. And that’s not a good deal for you.
In addition, rent-to-owner buyers usually pay an above-market rent, with the amount above the market rate being credited to you as your downpayment at the time of purchase in 1-2 years. That above-market rent is non-refundable if you don’t buy. In addition, to actually buy the property, you have to be able to get financing and if you can’t get it now, you probably won’t be able to get it in 12 months. This means you will probably fail to make the purchase and lose all the additional rent that you would have been better off saving for a downpayment when you can get financing and buy a home through a non-rent-to-own opportunity. Few rent-to-own homes actually close escrow where the renter purchases the property; most fail and then they continue to be a renter, and with less money in savings to boot!
In addition, since the rent-to-own homes only make up a small percentage of the available homes in the market, the chances that one of them is a really good fit for what you want, need, and can afford are slim. Remember, you should only buy property if it is a great fit for you and you plan to own it a long, long time. It’s unlikely a rent-to-own will fit that description. Not to mention that the seller/investor is going to probably demand an above-market price on the property in exchange for the option to purchase, so you’ll lose some wealth there too.
If you are not currently financeable for a long-term, fixed-rate mortgage, don’t fall into the trap of thinking that some rent-to-own deal will be a great opportunity for you. In most cases, you will be better off to work on your credit profile and score, save some money for a downpayment, increase your income if possible, pay off your debts/car/credit cards, and shop around for a few years to find a property that is actually a great fit for you. In the long run, you’ll earn a lot more wealth this way over thinking some rent-to-own deal is the great opportunity you’ve been seeking.