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Cover All the Bases Upfront

Reprinted from Washington Timeshome guide

By James C. “Beau” Brincefield
The Washington Times

The most important thing to remember when you lease your home to someone with an option to buy it is that you need to negotiate and draft all the essential terms of both agreements.

The lease agreement should cover all of the particulars that any properly drafted lease agreement would cover. The option to buy paragraph contained in the lease agreement should state simply that the tenant has the right to purchase the property on the terms stated in the purchase contract attached to the lease. It also would describe how the tenant would go about exercising the option to purchase.

The purchase contract attached to the lease should be a complete contract, as if no lease were involved. By having a separate purchase agreement, you will overcome the most common pitfall of lease option agreements: namely that the option paragraph is so generalized that it does not cover all the essential issues that must be covered if the tenant decides to exercise the option to buy.

As the landlord/seller, you should remember that the tenants/purchasers have an option to purchase; they are not obligated to purchase.

Consequently, you would be wise to include a “kick out clause” in the lease agreement so that you could continue to market the property. If you found a purchaser willing to enter into a noncontingent contract, you could give your tenant (who has the purchase option) a specified period of time within which to exercise the option or lose it.

You also want to make sure that you would continue to have the right to show the property for sale and that you would be fully protected if the tenant breached the lease or refused to leave at the end of the lease term.

This is usually accomplished by a stiff liquidated damages clause that doubles or triples the daily rent if the tenant breaches the lease.

Of course, you also would want the standard lease provisions requiring a substantial security deposit and providing that the tenant must pay your legal expenses and any other reasonable costs related to enforcing your rights under the lease.

Lease options also involve some important insurance and tax issues. Once you enter into a lease agreement with a tenant, you are no longer the owner occupant of your home. Consequently, your standard homeowner’s insurance policy no longer covers you. You must obtain an appropriate amendment to your policy. You should make sure that the tenant has appropriate hazard and liability insurance coverage.

Finally, you need to be aware of the tax implications of converting your home from your principal residence to a rental property. The sale of a principal residence is treated more favorably than the sale of an investment property.

Reprinted from The Washington Times, Friday, October 31, 1997.

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