As you can see, there are smart and not-so-smart ways to buy “nothing down”. The following is an example based on a real deal I helped a student of mine put together:

Sandy is interested in purchasing a home to live in, but she doesn’t have much cash. She just started her own business and cannot not qualify for a conventional or FHA low-down payment loan. Sandy finds a seller with a nice property, with very little equity, but a low-interest rate loan. Sandy leases the property from the owner for three years for $1,200 per month, with an option to buy at $162,000. The house is currently worth $179,000. The seller agrees to the discounted price because he saves a real estate commission and can wrap up the deal quickly.

The agreement provides that the seller give Sandy a 25% ($300) credit towards the purchase price for each rent payment Sandy makes. Sandy also puts up $1,200 as a security deposit, which will be credited towards the purchase price when she exercises her option to purchase the property.

After 12 months, the property has appreciated in value to $189,000. Or, if the property values do not increase, Sandy has made improvements to the property that increased its value. In addition, Sandy’s “equity” has increased because of the $300/month rent credit. Thus, after 12 months, Sandy’s equity position is $31,800:

Sandy exercises her option to purchase the property at the “strike price” (original option price, less credits).

The Lease/Option “Refi”

In funding a loan to buy the property, most lenders would consider this transaction a purchase, and base their LTV requirements on the option strike price ($157,200), not the appraised value ($189,000). So, if Sandy were to borrower 90% LTV, most lenders would have happy to give her .9 x $157,200, which is $141,000 (which is actually about 75% loan-to-value). In short, the lender is treating the exercise of a purchase option the same as a home purchase, effectively "penalizing" the buyer.

A small number of lenders will treat Sandy's transaction as a refinance, in which case the LTV is based on the appraised value, not the option strike price. So, a 90% LTV refinance would allow a lender to give Sharon .9 x $189,000 = $170,100, which would cover the strike price ($157,200) and the loan costs (approx $4,000). In fact, Sandy would have enough cash left over to buy new furniture. Or, Sandy could simply borrow less, having a lower monthly payment. Either way, this is solid, “nothing down” deal.

Note that a lease/option “refi” is not an ordinary transaction, so be patient if you are looking for a lender that will fund in this manner; it will take a lot of phone calls!

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About the Author . . .
William Bronchick, CEO of Legalwiz Publications, is a Nationally-known attorney, author, entrepreneur and speaker. Mr. Bronchick has been practicing law and real estate since 1990, having been involved in over 600 transactions. Visit his site at http://www.LegalWiz.com