A lease option is way to either buy or sell a property. It is a legal agreement which allows an individual to rent (lease) a property for a defined period and gives them the option to purchase the property for a pre-agreed price after or during the rental (lease) period.
If you are purchasing a property using a lease option, you (the purchaser) pay: an initial deposit (called a consideration) at the start of the lease period, monthly payments during the lease period, and if you decide (execute your option) to buy the property you pay the remainder of the payment at the end of the lease.
If you are selling a property using a lease option, you (the vendor) receive: an initial deposit (called a consideration) at the start of the lease period, monthly instalments throughout the lease period and the remainder of the payment at the end of the lease (if the tenant executes their option to buy your property).
Who is a lease option for?
Buying using a lease option
For a buyer a lease option allows them to secure the purchase of a property for an agreed price with a smaller deposit than the conventional minimum deposit required by lenders. Subsequently, it is suitable for individuals who are….
Struggling to get a mortgage either because:
The don’t have a big enough deposit,
Haven’t lived in the UK for long enough,
Are self-employed,
Don’t qualify for any other reason.
Property investors who want to maximise their return on cash employed.
A lease option is especially helpful to those who might be building their credit or don’t have enough saved for a downpayment.
Selling using a lease option
For a seller a lease option allows them to secure the sale of their property at an agreed price (often a higher price) for completion at a later date and benefit from monthly income during the lease period. Therefore, it is suitable for individuals who are…
In negative equity: using a lease option these individuals can often maximise the sale price of their property enough to get them out of negative equity.
Property investors looking to sell off their portfolio: using a lease option they can make more money from selling their portfolio by securing a higher sale price and making monthly income through the rental payments. They can also reduce any tax payable such as capital gains tax if they have multiple houses to sell and have already consumed their capital gain allowance. Using lease options, they can stagger the sale completion of multiple properties to fall into different tax years to maximise their capital allowance.
Having difficulty selling their property: a lease option can make a property more accessible and attractive to a wider range of potential buyers. This can help drive your agreed sale price up, allowing you to make more money from the sale of your property.
How does a lease option work?
A lease option is formed of 2 separate legal agreements. One agreement (the lease agreement) gives an individual the right to rent the property and the other agreement (the option agreement) gives them the option to purchase the property during or at the end of the rental period.
The Lease Agreement: this agreement defines the monthly payments required and the duration of the lease. The duration of the lease is usually the same as the option period, defined below.
The Option Agreement: this agreement defines the purchase price at which the provisional buyer can purchase the property for (during or at the end of the lease period), the consideration (required to make the option agreement legally binding) and the option period (which defines the length of the agreement).
Once all the legal agreements are signed and the provisional buyer has paid the consideration to the vendor, the buyer can begin renting the property. During the lease period, the provisional buyer pays rent. This rent includes a standard rent and the “deposit top-up”. The provisional buyer then has the option to buy the property at any time during the lease period or at the end of the agreement. At the point they choose to buy the property they will have to make a final payment, which will be the remainder of the payment for the property.
If the provisional buyer is going to use a mortgage to complete the purchase of the property, the initial consideration and the deposit top-ups they have paid the vendor will contribute to their mortgage deposit. Therefore, the buyer can use the ‘deposit top-up’ as a mechanism to build the deposit they require for a mortgage. Once they have accrued the deposit necessary for a mortgage, a mortgage can be arranged, the purchase completed and ownership transferred.
It’s important to note that if the option to buy the property isn’t executed then the consideration and monthly payments including the deposit top-up are often non-refundable (but this depends on the terms of your agreements).
What are the benefits of a lease option?
Lease options have several benefits for both parties involved, the buyer and the seller:
Benefits for a buyer:
A lease option maximises purchasing power and can be used to jump up the property ladder: the structure of a lease option allows a buyer to secure the purchase of a property with a deposit which is smaller than the conventional deposit required by lenders and then use the lease period to build up the remaining deposit required for a mortgage. This makes houses which were unaffordable, affordable.
A lease option can be used as protection against rising house prices: if the buyer currently does not qualify for a mortgage, they can use a lease option to lock in a house price at today’s market value (without needing to qualify for a mortgage) and use the lease period to build up their credit score, deposit, or UK residency duration such that by the end of the agreement they do qualify for a mortgage and can complete the purchase.
They can live in and benefit from any modifications they make to their future property now: instead of waiting till they can afford their dream home, a buyer can use a lease option to secure the purchase of their dream home, rent the property until they can afford to complete the purchase and benefit from any modifications they make from it.
A lease option can be used to delay paying stamp duty: stamp duty has to be paid within 14 days of completion; therefore, a lease option can be used to delay any stamp duty payment, as it would only have to be paid once you have completed the purchase.
Benefits for a seller:
A lease option can be used to maximise sale value: a lease option makes a property more accessible to buyers. This creates increased interest in the property, which drives a higher sale price and a “quicker sale”. Subsequently, a seller can maximise the price they receive for their property compared to its current market value (this can help individuals who need to get out of negative equity). In addition, during the lease period they can make additional income from the monthly payments.
A lease option can be used to minimise personal tax bills: using a lease option landlords can sell their property portfolio and stagger the completion dates of each property. By staggering the completion dates of each property into different tax years, investors can maximise the use of their capital gains tax allowance, reducing their capital gains tax bill.
A lease option can be used as protection against falling house prices: they can use a lease option to lock in a house price at today’s market value for completion at a later date.
A lease option can be used to protect the condition of a property: properties are often better looked after by the tenant as they view the property as their own. Therefore, if the situation arises where the prospective buyer does not execute their option to buy the property, the owner gets their property back in a good condition.
If you’re an individual who either doesn’t qualify for a mortgage due to your deposit size or has the necessary deposit size but does not qualify for a mortgage for another reason, a lease option could be a suitable finance option for you. On the other hand, if you’re in negative equity and need to sell or if you’re a property investor looking to sell your property portfolio, a lease option could be a suitable option to maximise your sale value!
Where can I find someone who offers a lease option?
If you would like to benefit from purchasing or selling a property using a lease option, Doormarked can find you an independent property advisor (IPA) who’ll be able to structure the arrangement and help you find a seller or buyer respectively.
We advise individuals speak to a financial advisor to determine whether a lease option is a suitable method to either buy or sell a property based on their personal financial situation.
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