Land Contract vs. Rent to Own

Home buyers who have difficulty qualifying for traditional mortgage loans may benefit from land contract or rent-to-own purchase options. Both methods allow for more lenient financing, allowing home buyers to reside in the residence while paying off the home. And while land contract and rent-to-own options offer more flexibility, both buyers and sellers should have a clear understanding of a contract's terms before entering into agreements.

A land contract purchase — also known as an installment sale agreement — is a direct contract between a buyer and seller, meaning no bank or mortgage loan company takes part in the transaction, according to LandBin, a real estate reference site. In effect, sellers provide the financing up front in the form of the house, or property, while buyers make installment payments until the contract is paid off.

Once the contract is paid off, the seller transfers the title of property over to the buyer. In many cases, an installment agreement includes a balloon, or lump sum payment, after a five- or 10-year period, which is the length of the contract agreement. At this point, a buyer will need to find financing for the balloon payment or pay it off in cash.

Both methods allow for more lenient financing, allowing home buyers to reside in the residence while paying off the home.

Rent-to-own agreements — also known as lease options — allow home buyers to rent a home and purchase the option to buy it after an agreed upon time period. After this time period, buyers must obtain financing to purchase the home through a bank or finance company, according to RealEstate ABC, a real estate resource site.

Before signing a contract, both buyer and seller must agree upon the purchase price of the property. A buyer pays for the option to purchase, usually by paying larger lease or rent payments during the lease period. Contract agreements are negotiable, so a seller may agree to apply the extra rental payment amount toward the down payment for the house purchase.

Both land contracts and lease options offer a wider range of financing options than traditional means, though with less stringent requirements, and buyers and sellers take on more risks. In the case of land contracts, buyers must be able to finance the balloon payment once it comes due or else risk foreclosure.

In the case of lease options, buyers may end up paying a higher price for a house than they would in a traditional sale due to the purchase option amount. On the other hand, agreements made during a slow housing market may give buyers an advantage if the market picks up. Buyers can end up paying less than the house is worth at the end of the contract period.

Once a land contract or rent-to-own contract is signed, both buyer and seller agree to certain payment terms and living conditions, even though the potential for future problems exists, according to RealEstate ABC. Once a buyer moves into a home, he is free to make any additions or renovations at his discretion.

If a buyer is then unable to finance the home at the end of the contract, the seller can end up with a damaged property that's depreciated in value. In the case of rent-to-own agreements, buyers who are unable to obtain financing lose all the money paid toward the purchase option during the course of the rental period.