Rent to Own Agreements

When deciding which rent to own agreements to use, there are a few thoughts to keep in mind:

• How easy would it be to evict the tenants if they do not pay



• What would a Judge discern as the purpose of your rent to own forms - a sale or rental?



• What are the tax implications of the lease-option agreements?



• What is the optimum duration of a rent to own form

There are two options for a rent to own agreement

• A lease-purchase agreement



• An installment sale land contract

Typically, landlords will use a lease-option agreement rather than a land contract in order to make it easy to evict problem tenants. In addition, you can delay payment on rent credits as income until the property is sold and pay taxes as capital gains taxes rather than regular income.

It is critical that if you do not want the IRS to regard your agreement as a sale that the lease term be three years or less. Otherwise, the IRS could regard your lease option agreement as a sale and calculate an imputed interest. You would then owe back taxes on the imputed interest which will be treated as regular income. In an eviction, a Judge might regard a lease-option that is longer than 3 years as a sale and make you foreclose on the tenants.

Alternatively, using a land contract upfront will make it much more difficult to evict non-paying tenants. You will have to go through the foreclosure laws applicable in your State. But if you are going to let the tenants live in the property more than 3 years this is the better way to go.

If you are concerned about getting your money, a land contract with a balloon payment could be a good option for you. Often a 5 year balloon payment will meet both legal concerns and return your equity in a timely manner.

There are certain tax implications to keep in mind with rent to own agreements:

• If you use a lease option agreement:


• you can deduct property taxes, insurance, mortgage interest - the tenant cannot



• You must still claim depreciation



• If you use an installment sale land contract



• you can no longer treat the property like a rental and cannot claim any typical rental expensives



• you must claim the interest as income

I personally prefer the lease-purchase agreements since I can continue to claim the property as a rental, gain equity as the property is paid off, earn positive cash flow and keep the house in good condition. The table below summarizes the pro's and con's of each type of rent to own form:

As you can see, you hold the cards when you use a lease-purchase agreement. But if really want to sell the property, a land contract will lead to a quicker result.

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