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12/27/12 It's The Law: Lease With Option Can Be Useful

It's The Law

Lease with Option Can be Useful

(12/27/12)

Question:

Our family recently sold our home through a short sale. It looks like property prices are on the upswing and we do not want to get locked out of the market. The short sale ruined our credit, but one of our friends suggested we explore a lease with an option to purchase. Can you explain?

Answer:

Let me start by explaining a short sale to our readers. A short sale is when a property owner sells and the net proceeds of sale are insufficient to pay off the mortgage. Although lenders generally have a right to pursue a judgment against the owner for the deficiency, many are waiving the deficiency in an effort to encourage sales of these under water properties. Hopefully, your lender waived the deficiency.

I have been advised by credit specialists that short sales do not impact credit scores to the same extent as foreclosure. Making an effort to resolve the problem, rather than just allowing foreclosure to take place, apparently means something. It is my understanding that your credit can be restored in as little as two to three years after a short sale, while foreclosure credit restoration takes longer.

A lease with an option to purchase may be an excellent option for you. Finding a seller willing to enter a lease with an option will likely be more difficult than outright purchase, but the arrangement could prove very beneficial to both. It will allow you to take occupancy of a home, with the right to purchase it at a later date if the property proves suitable and you are able to obtain financing in the future.

Lease with an option is actually two transactions rolled into one. The lease is the primary document and it is important that terms of the lease are acceptable. Even if you do not exercise the purchase option, you will be paying rent and living in the home for the term of the lease.

Where most lease options fall apart is in terms of the purchase option. The terms are often squeezed into a form residential lease and, as a result, many important aspects are omitted.

Important terms of the purchase option will include manner in which the option is exercised and time limitations. Since the option to purchase becomes a purchase contact after the option is exercised, the terms of purchase should also be specified. That is why I prefer to attach a purchase and sale agreement to the lease and make terms of that agreement controlling if the property is purchased. The attached contract form will specify who pays closing costs, prorations, title and make sure that provisions mandated for residential purchase contracts by Florida law are included.

Purchase price is an important concern to both parties in these transactions. Setting a firm price in the agreement is the simplest way to address this issue and avoid dispute. But, it gives the tenant substantial leverage. If prices go up, the tenant will likely exercise the option. If prices go down, the tenant may try to negotiate a different price.

In some cases, the parties want to create the option but leave price for future determination. If the price is to be negotiated at time the option is exercised, the contract is probably void for vagueness and unenforceable. If the parties agree that the purchase price will be fair market value, it is likely enforceable. Most recent Florida cases have held that an option to purchase at market value is not too vague. Market value can be determined by experts. But, where the option makes no mention of the terms of payment or time for payment, even though it states the price will be market value, Florida courts have held the agreement unenforceably vague and indefinite. That means the agreement should be as detailed as possible.

If your seller is not particularly interested in a lease with option because of the uncertainty, you might consider proposing a lease with mandatory purchase. Under this arrangement, the tenant is required to purchase the property and usually puts up some deposit toward the purchase price that will be forfeited in the event of default. Sellers who are not happy with an option that may never be exercised may be more willing to lease where the purchase is required.

You may also be able to fine tune your arrangement so that some or all of your payments to the owner are applied to a purchase price. If the owner is reluctant to enter a lease with option, you might inquire if the owner would be interested if you added a requirement for semi-annual payments to be applied to purchase price, to keep the option open. The possibilities in structuring these transactions are almost limitless and, with the help of a good attorney. Where there is a will, there usually is a way.

Before proceeding down the road of lease option, you might consider other possibilities. Perhaps your seller would be willing to provide seller financing? That means you would actually take title to the property and give your seller a note and mortgage. The note and mortgage could contain a balloon feature, most often three to five years after closing, at which time you would have to re-finance the property. The danger to both parties is that you are unable to re-finance and the seller forecloses. But, payments under the mortgage are very helpful in rehabilitating your credit score. Even if there is already a mortgage owed by the seller, a wrap around mortgage can be created under which you pay the seller's mortgage as part of payment to the seller under your mortgage.

Lease with an option to purchase can provide a good opportunity for both buyer and seller. It is a particularly attractive option for those with recent credit problems. Details of the document are critical and you are well advised to retain an experienced attorney to draft and explain the documents.

By: William G. Morris, Esquire

William G. Morris is an attorney with offices at 247 North Collier Boulevard on Marco Island, Florida. His practice covers a broad range of subjects, including civil litigation, real estate, business and corporate law, estate planning and probate, domestic relations and contracts. He writes this column periodically with respect to legal matters that frequently affect non-lawyers. The information contained in this column is not intended as legal advice and, of necessity, is generalized. For questions about specific circumstances, the reader should consult a qualified attorney.

Questions for this column can be sent to: William G. Morris, e-mail: wgmorrislaw@embarqmail.com or by fax, (239) 642-0722 or

The Marco Island Eagle

Other articles of interest can be viewed at our website, www.wgmorris.com.

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