Option Agreements: An Investor’s Best Friend – Part 2

In last week’s column, we described what an option is and the advantages of using them.  This week, let’s look at a couple of different types of options in action.  (If you missed last week’s column, you’ll find it here.)

Let’s begin with the type of option that most folks are familiar with – lease options.  Lease options are best structured using two documents – a lease contract and an option contract.  The lease outlines the agreement between the landlord and tenant regarding property rental. The option outlines the agreement between the property owner (usually the landlord) and the tenant regarding the tenant’s right to buy the property.

There is a big difference between a lease purchase and a lease option.  With a lease purchase, the tenant is saying he WILL buy the property.  With a lease option, the tenant is saying he MAY buy the property.  A lease option locks the property owner into selling the property according to the agreed-to terms and conditions outlined in the option agreement.  On the other hand, the tenant can exercise his option and buy the property or he can simply walk away.  For most buyers, if their goal is to buy the property in the future, a lease option is a better, safer way to go.

Why would a property owner ever agree to a lease option?  There are several reasons:  1) Using lease options often attracts a better caliber of resident – the resident thinks more like a homeowner.  2) Instead of getting a $700 fully-refundable security deposit, the landlord gets a non-refundable option fee – this fee can be anywhere from several hundred to tens of thousands of dollars.  3) The owner is able to lock in a fair-market price while also getting favorable sale terms.

Now let’s talk about straight options.  Over the past six years, as real estate values have tumbled, Kim and I have used straight options to build future potential wealth.  A straight option is when a property owner agrees to sell you his property at a pre-agreed-to price and terms within a certain time period.

Here’s an example of one of our straight-option deals.  A few months back, we met a homeowner who needed to make some repairs to his house but couldn’t afford to pay for the repairs.  At that time, his home was worth $135,000.  The repair estimate was $3,500.  The owner’s loan balance was $130,000. 

We paid him a $3,500 option fee (that would be applied to the sale price if we exercised our option) and in return he sold us an option that would allow us to buy his property anytime within the next six years for $135,000. 

Was this a win-win deal?  The owner got $3,500 and was able to make the needed repairs to his home.  This wasn’t loaned money that he needed to pay back – it was money he received for selling us an option.  In addition, he thought the $135,000 sale price was more than fair because he felt real estate values would continue dropping into the foreseeable future.

Bill & Kim Cook are a husband and wife real estate investing team. They live in Adairsville, Georgia and have been investing in real estate since 1995. They specialize in buying single-family homes, mobile homes and mobile home parks. They also run North Georgia REIA and teach folks how to successfully invest in real estate.