It would be wise to be wary of lease-option contracts

Almost every cable TV real-estate guru pitches them as great moneymaking techniques: lease-option contracts, also known as "rent-to-own" programs.

In some metropolitan areas, lawn signs, telephone poles and newspaper advertisements hawk them aggressively to modest-income and credit-challenged consumers who want to buy a home. Stripped to its basics, the lease-option concept is sound: Buyers who have imperfect credit histories or insufficient cash for a down payment on a standard mortgage can rent a house for a year or two, pay a fee to the landlord for the right to buy the property at a set price during the lease term, and have part of the rent count toward a down payment.

At its best, it's a win-win deal: The tenants clean up their credit, pay hundreds or thousands of dollars for an option to buy, and presto — they've got part of their down payment. They're ready to talk to mortgage lenders and buy a house. The landlord sells the property, often at a premium price, after 12 to 24 months of steady rent collections. Plus, the landlord keeps all the option money.

But there is a dark side to lease-option deals for unwary buyers — problems that could become increasingly commonplace as small-scale investors try to unload money-losing properties in softening real-estate markets.

In Florida, the state attorney general is investigating one major lease-option promoter for allegedly defrauding dozens of clients by pocketing their option fees and failing to transfer houses when tenants were ready to buy.

In Texas, widespread consumer complaints about lease-option programs prompted the Legislature to pass new statutory standards that are set to take effect Jan. 1.

Under the new law, lease-option promoters will be prohibited from terminating contracts over minor lease disputes or late rental payments, and will need to have clear legal title to the properties they offer for sale using lease-options.

Robert Doggett, an Austin-based legal-services attorney who lobbied the Texas Legislature on the issue, said lease-options "had become a racket."

"You had all these mom-and-pop investors who took seminars and learned to do lease-options as a way to make a million bucks without doing a lot of work," Doggett said.

Mini Timmaraju, Texas legislative director for the national consumer-advocacy group ACORN, said hundreds of families around the state have been recent victims of schemes that "put them into situations where they were paying a lot of money for something they'd never really get to own."

In some cases, she said, investor-promoters offered rent-to-own contracts on houses that had major title problems, including being built on land that had been illegally subdivided or platted.

Doggett said other lease-option promoters obtained properties by contacting financially distressed homeowners facing foreclosure and offering to step in and take over their payments. But those investors could not deliver clear title to tenants who paid for options to purchase because the mortgage lenders could demand the properties back at any time.

Other abuses, Doggett said, included contract language that essentially permitted the investor-landlord to seize the option fee money paid by the tenant — often thousands of dollars — and terminate the deal on almost any pretext the landlord chose, whether a day late on rent payments or minor property-maintenance issues.

In effect, he said, such promoters are simply "in the business of collecting fees for options they never intend to allow to be exercised."

How can consumers who consider buying a home using a lease-option contract protect themselves in states where statutory standards are nonexistent or weak?

John Schaub, an investor and author in Sarasota, Fla., who has used lease-options successfully for more than three decades, says evidence of clear title to the property offered for option is the bare minimum.

Without that, "the tenant is going to have a hard time" ever exercising the option and acquiring the house, Schaub says.

Would-be tenants can check title issues online in many places, but failing that, they should demand that lease-option promoters produce evidence of property ownership or sign a statement that they have clear title and the right to transfer title.

Finally, read the lease-option contract carefully, ideally with the help of a knowledgeable professional.

No contract should give the landlord-seller the right to cancel the deal, evict the tenants and take their option money over trivial issues. Beware: Many lease-option contracts in the marketplace come close to doing precisely that.

Kenneth R. Harney: kenharney@earthlink.net