How to protect yourself in a Lease Purchase Deal
or Now that you got it, how do you keep it?
by Claude W. Diamond J.D.

First The Good News:

You’re holding a cashier’s check made out to you for $5000.00. You also hold in your entrepreneurial hands a contract that will generate $250.00 per month Positive Cash Flow. The deal even gets better; it’s someone else’s property and you have minimal liability with no Tenant & Toilet problems. Your pulse is quickening and you are jumping up and down with joy thinking about what you have just accomplished. You call home and tell your significant other to get ready; you’re going to do the town and he/she is really proud of you! Yes, life is good! You have just created, negotiated and achieved your first Lease Purchase deal of your real estate investor career and now you can envision many more deals of the same kind.

How did you do it ?

You got with the program, worked hard and went out and found a nice 3 bedroom / 2 Bath Home, you know the one with the white fence around it. You now control it for the next two years with just one month rent out of your pocket. A Tenant/Buyer will be renting to own from you in a Sandwich Lease and placing $5000.00 as non refundable Option consideration into your pocket. A Sandwich Lease is simply when you rent and control another’s property for a specific period of time with all the terms of the purchase prenegotiated. If you have quality contracts with a specialized assignment clause you may rent this property to another. You should always profit immediately or upfront with what we call option money (a non refundable amount of money paid at the initiation of the deal), have positive monthly cash flow and a possible note or cash when the option is exercised (purchased). Congratulations, you now control the property without the title changing hands and you can sublet, assign, transfer or convey any rights which you have to a third party. Not bad, huh ? Only here comes...................

The Bad News.

There are many ways your Lease Purchase deal can go wrong UNLESS you take some of the following steps to protect yourself and the deal.

1. Option Money: Always get enough non refundable Option consideration upfront. Nothing beats making money upfront, but better yet getting a substantial financial commitment from your tenant/buyer reduces the likelihood of a problem. Don’t do a Lease Purchase with a Tenant/ Buyer unless they can commit a minimum of Option Money (3 to 5 months rent or more).

2. Contracts: Don’t use generic real estate office or stationary store Lease Purchase contracts. Have a good contract drafted by a competent real estate investor attorney. It should contain the verbiage that will protect you. I use 6 different and specific Lease Purchase Contracts in my transactions depending on my strategy or position in the deal.

3. Memorandum: Record a Memorandum of Option. This document can be recorded simply and inexpensively and can offer tremendous protection for your rights in the property.

Example: The seller tries to sell the same property to another person without you being notified. The memorandum is a cloud on the title.

4. Credit Check on Tenant/Buyer & Owner: Check the credit of the buyer and the seller. Know as much as possible about the people you’re doing business with.

5. Preliminary Title Check: Do your homework and check out the owner and the property with one of the commercial property on-line services available or better yet contact your local Title company for information. Do your due diligence.

6. Open Escrow: Open escrow and have escrow instructions issued at the onset of the transaction. It will create a paper trail and show the intent of the parties in the event of a legal challenge.

Special Tip: Try to always use your Escrow/Title Company or Attorney in these matters. It just makes sense to work with people with whom you have established a business relationship. They might just look out for you.

7. Deed: Have the owner place the deed into escrow as soon as possible. In the event you or your Tenant/Buyer wish to close, there will be one less delay.

8. Payment Account: Set up a direct payment account with an escrow company, title company or a bonded/established accountant or firm to pay the bank, taxes, etc.

9. Insurance:

A. Have the Seller make you the loss payee on the insurance policy (if you can).
B. Require the Tenant/Buyer to have renter’s insurance.

10. Property Inspection: Do a property inspection/walkthru with the Tenant/Buyer and use a complete inspection form that the Tenant/Buyer can sign.*

Special Tip: Take a camcorder video of the property with the Tenant/Buyer and have them sign and date the tape.

11. Honesty: Yes, I know it’s corny, but it works for me ! Be upfront and honest in your dealings with all the parties. Hopefully, in turn, they will reciprocate and you will all enjoy a Win/Win deal. Let the seller know that you will be subletting the property to qualified Tenant/ Buyers.

Final Thought: The best way to protect yourself in any Lease Purchase is to deal with all the possible problems before they occur.

Hindsight is 50/50, but Foresight is 100%!