Buying a Property You Are Currently Renting
Hello, I’m Kevin - a financial planner who helps tech professionals and their families live great lives.
Make yourself at home. 😉 We’ll get to how to buy a property you’re renting in a moment.
But first - here are some links you may want to save for later.
Investing in or Betting on Real Estate
How to Use Credit Reports to Improve Credit Scores
Now, let's get on to the blog!
Different Situations
In an ideal world, you would want to buy the property and the landlord would want to sell. However, your plans may not perfectly align.
After all, there were reasons the:
landlord chose to rent instead of sell and
you chose to rent instead of buy!
This article has three parts:
Renter want to buy
Landlord wants to sell
Potential next steps
1. Renter Wants to Buy
Assume you haven’t been approached by your landlord yet would like to buy the property.
They may or may not be willing to sell.
More Likely
Situations a landlord may be more likely to sell include:
remote ownership,
home gain exclusion,
rapid appreciation,
strong stock market,
recent expenses,
Adjustable Rate Mortgage, and
higher taxes.
Remote Ownership
It’s tough to manage property from far away.
Hassle
It’s tough enough to hire local service professions when you live nearby. It may not be possible to coordinate repairs and maintenance remotely.
Also, tenants could skip town or stop paying without notifying their landlord. It helps to have someone check on the property regularly.
Lawsuits, evictions, and collections are painful for everyone involved. They may require the landlord’s physical presence.
Damage
Tenants may damage or even steal the owner’s property.
Some examples my family has experienced from tenants include:
flushing diapers down the toilet,
stealing a dishwasher, and
tearing into walls to loot copper pipes.
Situations that impacted human lives were far worse.
Travel
Someone needs to be located near the rental.
If the landlord lives far away, they may have to pay travel and lodging costs. They also might spend a lot of time in transit.
Property Manager
A remote landlord might hire a property manager.
However, the property manager may charge:
the first month rent for a new tenant and
10% of ongoing rent.
It also complicates the situation. All communications may be filtered through a property manager who has a vested interest to continue to rent the property!
Home Gain Exclusion
The U.S. Government encourages home ownership. One way it does so is with a tax exclusion for the gain on a primary residence.
Someone who owns and lives in the house two (2) out of the last five (5) years may be able to exclude up to:
$250,000 single and
$500,000 married, filing jointly.
If the landlord lived there before renting to you, consider mentioning the exclusion to them. They simply might not know!
Rapid Appreciation
Residential real estate property values have risen significantly since the start of the pandemic.
The owner may not know the fair market value. They might be able to cash out substantial equity from their rental.
It’s more likely the landlord would sell if the home’s value has risen faster than its rent. That’s especially common in markets with rent control.
Feel free to share high-level numbers numbers with the owner:
"Zillow estimates the value of your home has risen $200,000 over the last five years. What do you think?"
Mentioning it could build goodwill and plant a seed for a potential sale.
Strong Stock Market
A landlord may be inclined to sell when the economy is doing well.
If the stock market and other investments have risen faster than real estate, the owner may feel like they’re missing out on bigger gains.
Recent Expenses
Surprise expenses are part of home ownership:
drains clog,
furnaces fail, and
roofs leak.
1% a Year
I generally assume 1% of the home’s value each year for repair and maintenance expenses.
If it costs less, great! Save the money for future updates.
All at Once
However, a home may have several major expenses at once.
The owner may feel overwhelmed and be interested in selling. We’re all prone to recency bias.
Prepaid Expenses
If that case, they may have paid for some major repairs. That could lower the future cost of ownership!
Tip: If the owner complains about their expenses and you’re paying market rent, they may want to sell.
Adjustable Rate Mortgage
The owner may have a looming Adjustable Rate Mortgage (ARM) issue.
Typically, interest on these loans is fixed for years and and then adjusts to the market rates. The initial period is often five (5) to seven (7) years.
Interest rates have risen. A landlord with an ARM may have significantly higher costs on the horizon. They might want to sell before their interest rate adjusts.
Higher Tax
A landlord could pay more tax over time.
Less Depreciation
A property may take more depreciation soon after it’s rented.
Some assets can be depreciated over 5, 7, or 15 years instead of the standard 27.5 years for residential rentals. Stoves, refrigerators, flooring, furniture, roads, fences, and landscaping typically don’t last 30 years!
Accelerating depreciation can reduce taxes soon after renting a property. However, those deductions end after the 5, 7, or 15 years.
Lower Interest
With a fixed interest rate mortgage, more of each payment goes to repaying the balance over time. The same interest rate on a smaller loan balance costs less each month.
Less interest expense tends to raise income and ultimately taxes.
Higher Rent
The landlord may raise rent each year for inflation.
Collecting more rent while reporting less depreciation and interest can increase taxable income. Taxes will likely rise.
Less Likely
A landlord may be less likely to sell in situations like:
future rent increases,
low fixed interest rate,
market volatility,
retirement income,
personal use,
family bequest, and
address benefits.
Future Rent Increases
Rent may be below market value. That’s especially common in rent controlled areas.
If you were to move out, the landlord could raise the rent.
However, it already seems to be worth their while. The chance to earn more could make it less likely they’d sell.
Offering to buy could:
alert the owner the rent is below market and
signal your desire to live in the home long-term.
Tip: Check rent estimates on sites like Zillow and Redfin. If you’re paying below market rent, offering to buy the property could backfire!
Low Fixed Interest Rate
The owner may have locked in a low interest rate.
A below market rate gives them a competitive advantage in the rental market. It allows them to earn more profit than other owners - even you!
They may not be willing to give up that benefit.
Market Volatility
There’s often a flight to more stable investments when markets fall.
An investor may be less likely to sell a rental which earns steady income in down markets.
Even if the return is low, it may be seen as better than a potential loss.
Retirement Income
A landlord may consider rent as their retirement income.
Real estate often makes up the majority of someone’s net worth.
Once they pay off the mortgage, their primary expenses could be:
property taxes,
insurance, and
repair/maintenance.
These expenses tend to rise with inflation. So does rent.
If rent already covers the expenses, inflation will likely grow profits.
If rent doesn’t cover all expenses, the owner is betting on appreciation.
Personal Use
The owner may plan to move back into the home you currently rent.
That’s especially common for a couple who used to live there and moved into a larger home to raise a growing family.
Downsize
Once their children are grown and flown, the owner may not need as much home. They might move back into your residence!
Tax Exclusion
The landlord may move back in to qualify for the home gain exclusion. It might only take two years for them to receive the full tax benefit.
Tip: Moving back into the home is more likely if the landlord lives nearby and the property has appreciated significantly.
Family Bequest
People often want to keep a home in the family.
Sentimental Value
Their emotional attachment may be especially high if:
they grew up in the home or
raised their children there.
They might want to leave it to a family member after they pass.
Step-Up in Basis
Doing so could receive a step-up in basis.
The property could be treated as if the heir bought the home at the fair market value when the owner died.
The family might avoid capital gains tax altogether!
Example
Let’s say the landlord:
paid $200,000 for a home
that’s currently worth $600,000.
The home rises to be worth $1 million by the end of their life. They leave it to a family member after they pass.
The home may be valued at $1 million for the owner’s estate.
The heir would also have their cost basis stepped up to $1 million. It’d be as if the heir paid $1 million for the property.
They could sell it right away and pay little or no tax.
The family might not pay any tax on the $800,000 gain!
Tip: It’s worth checking how much the owner’s home has appreciated since they bought it. Sites like Zillow, Redfin, and the local county assessor may publish the purchase price and current estimated value.
Address Benefits
A landlord may own a property primarily for its address.
Diversification
It could lower their geopolitical and currency risk if they live abroad.
Residency
The address could also be used to establish residency.
For instance, a friend of mine from college moved from Mexico to California for his senior year of high school. That got him four years of in-state tuition at UCLA.
Shady
There are more underhanded ways to use a property’s location.
The address may be helpful for enrolling in a school district or conducting business. These benefits could disappear if challenged.
2. Landlord Offers to Sell
The owner may offer to sell you the property.
Typically, that’s for one of eight reasons:
debt,
divorce,
disability,
death,
deduction,
discontent,
diversification, or
displacement.
Debt
A landlord may need to sell a rental to pay business or personal debt.
They might need to pay for medical expenses, education funding, business challenges, repairs, purchase of another home, etc.
Divorce
Landlords often need to split their assets to settle a divorce. It’s possible the rental was a source of contention.
Their housing needs may also change. When our landlords got divorced, he moved into the home we were renting! We had to move.
Tip: A divorce roughly doubles the odds a landlord will move back in! Watch out for marital conflicts - especially if renting month to month.
Disability
If someone becomes disabled, they may not be able to work. They could also have heavier expenses for medical and other care.
Disability may be worse than death financially and force a sale.
For more, check out: How Disability Insurance Works
Death
If the landlord passes, the home may need to be sold to split assets or pay estate expenses.
In that case, you may deal with an estate executor or even an attorney. They may have an incentive to sell quickly.
Deduction
A landlord may see their tax bills rise if their depreciation expense falls. That’s common with accelerated depreciation.
In addition, they may be about to lose the home gain tax exclusion. The deadline may be three years after they move out of the home.
Tip: If the landlord lived in the property until they rented to you, consider getting ready to buy a year or two into your lease.
Discontent
It can be a hassle to chase rent and deal with the seedy side of humanity. The owner may decide renting isn’t worth the effort.
If they’re offering to sell you the property, it may be because of frustrations with another tenant.
Diversification
The landlord may simply have too much invested in real estate!
They might decide to sell the rental and either:
start a business or
invest in something more passive.
Displacement
The owner may need to relocate for any number of reasons:
a new job,
an ailing family member,
the birth of a grandchild, etc.
3. Potential Next Steps
There are steps you can take regardless of who mentions the sale first.
Your BATNA
The key to any negotiation is to know your Best Alternative To a Negotiated Agreement (BATNA).
Options
Other options give you leverage:
If you’re looking to buy a car, find at least two good models.
If you’re borrowing money, get at least two lenders to compete.
If you’re looking to buy a home, find at least two good properties.
Timeline
Timing can be a critical factor.
A renter who just signed a 12-month lease has more flexibility than someone who’s renting month to month.
A landlord with growing debt may have less flexibility than if they were debt-free.
An estate attorney may want to settle as soon as possible.
Perspective
Assume you’re going to move.
That mentality can help you evaluate the situation more clearly.
Estimate
Next, explore your options.
What would it cost to rent a similar property?
How much might it cost to buy?
Consider key factors like:
location,
number of bedrooms and bathrooms,
square footage,
lot size,
layout,
building age and condition,
school district,
view,
amenities,
HOA fees and restrictions, etc.
Identify what’s important to you. Only pay for what you value!
Based on your checklist, what would it cost to rent or buy?
Needed Repairs
You may know more about the property’s issues than anyone else - including the owner!
Make a list. Estimate the cost of each improvement.
If the repairs are necessary, deduct them from the property value.
Homeowners Association
A Homeowners Association (HOA) can significantly impact the experience of living in a property.
HOA Financials
If there’s a Homeowners Association, check its financials.
HOA fees vary greatly. There may also be special assessments which could cost extra.
Cash reserves are needed. Ask for a copy of the latest budget, balance sheet, and tax return.
Upstart HOA
It’s possible the property doesn’t yet have a Homeowners Association. That’s common if apartments are being converted to condos.
It might make sense to start one.
The residents could share information and collaborate on improvements. They might even coordinate negotiations.
Tenants may be in suboptimal units. Someone in a two bedroom apartment may benefit from downsizing while someone in a studio may need more room.
Placing multiple units on the market at once may lower the sale price of each unit and extend the time on the market.
Tip: Learn what you can from other residents if many units are being sold at once.
Limitations
A property may have other requirements - particularly with a Homeowners Association (HOA):
Installing a fence, greenhouse, or shed may not be permitted.
A garden may not be allowed - especially in the front yard.
The HOA may contract with a landscaping company, which might be an issue for someone who’d rather maintain it themself.
There may be restrictions on (or requirements for) decorating!
An owner may not be able to grill on their balcony.
Other Important Factors
Some important things may not be impact the appraised value.
Accessibility
Stairs may not be an option for someone.
While not having an elevator now could be an inconvenience, it may be a major problem later in life.
Family Friendly
Some locations are more kid-friendly than others.
It seems obvious that children can’t live in a retirement community. However, it could become an issue if something happens to adult children and grandparents assume custody.
Public school district zoning influences property values in many parts of the country. However, public schools might not matter if you plan either private school or homeschool.
A nearby park, school, or playground can be very helpful. A neighborhood liquor store, strip club, or drug dealer - not so much.
Tip: Look for other children in the neighborhood. That can impact childhood friendships, activities, babysitting, and the like.
Pet Friendly
If you’d like a pet, consider whether the location would work.
A “no pets” policy could impact your life plans. Having a yard or nearby park could be important.
Rentable
Since you’re currently renting the property, it’s likely you’d be able to rent it to someone else if you bought it.
However, it’s worth checking!
The owner may have been grandfathered into their ability to rent it. There may be a cap on what percent of a building can be rented.
Also, short-term rentals have become popular.
The rise of Airbnb, Vrbo, and other options have lifted property values in many areas.
Tip: Check whether a home can be rented either short-term or long-term before putting in an offer.
Financing
The next step is to plan the finances.
Ongoing Expense
Estimate how much you can afford to spend monthly.
Tip: Rent is essentially the maximum you’ll pay each month. A mortgage is more like the minimum.
Standard
Usual expenses include:
mortgage principal and interest,
homeowners insurance,
HOA fees,
repair and maintenance expenses,
utilities,
security, etc.
PMI
Private Mortgage Insurance (PMI) is extra.
This insurance protects the lender in case the borrower fails to make on-time payments. It’s usually the result of less than a 20% down payment.
The cost of PMI depends on many factors like the:
down payment,
credit score,
loan amount, and
mortgage type.
The annual cost is often 0.5% to 1.5% of the loan balance each year, typically paid monthly.
It’s important to remember this is insurance. PMI payments don’t lower the loan balance.
Length
One way to lower the monthly expense is to take out a longer loan.
15 and 30-year mortgages are common, though some lenders offer longer repayment schedules.
Tip: Consider the age you’d be when you pay off the mortgage.
Do you plan to work that long?
Initial Expense
The buyer can also have many upfront expenses like:
home inspection,
credit check,
appraisal,
title search,
origination,
underwriting,
mortgage points, etc.
Upfront and selling costs are why it may only makes sense to buy a property if you’re sure you’ll live there for years. One guideline is a minimum of seven (7) years.
Credit Report
It’s worth checking your credit before a lender does!
Impact
Borrowers with better credit scores tend to:
have loan applications approved more often and
pay lower interest rates.
Challenge
Seemingly small changes can have a big impact on credit scores.
After reviewing your credit report:
dispute inaccuracies,
attack fraud, and
resolve issues.
Improve Utilization
You may also be able to lower your credit utilization.
Even if it isn’t possible to impact the total, you may be able to improve your credit score by lowering high balances.
Stay Consistent
At this point, it likely doesn’t make sense to either:
request a credit limit increase or
close any accounts.
Doing so can lower your credit score.
Instead, focus on making on-time payments. Also, update your:
contact information if it’s outdated and
income information if you earn more now.
For more, check out:
How to Use Credit Reports to Improve Credit Scores
Down Payment
Benefits
A bigger down payment can:
lower the monthly mortgage payment,
avoid PMI, and
provide negotiation leverage.
Cost
A big down payment also zaps more cash.
You may need that money for unexpected expenses.
Tip: There’s little benefit to paying more than 20% down unless you pay cash for the entire purchase.
Lender Negotiation
Almost every part of a mortgage is negotiable.
BATNA
Do some research to find low cost reputable lenders.
If you have a realtor, ask them for recommendations. They may know a responsive lender who can help you close on time.
Have a least two good lending options available before proceeding.
Pre-Approval
Start the application process with your most likely lender.
You can support your formal offer with a pre-approval letter.
Be sure to ask for more than you need. You can lower the loan amount later. However, it might be difficult to be approved for more.
Seller
The seller may offer to finance the property.
Their risk could be lower because they know:
you,
your rental history, and
the property.
They have a personal relationship with you and know you pay on time.
They could also take back ownership of the property if you default on the loan.
Options
Taking steps now can help prepare you for the upcoming negotiation.
They may put you in a good position to:
buy this home,
purchase another property, or
rent another home.
Learn More
Once you know your property and financing options, it’s time to talk to the owner.
Potential Questions
Your goal is to better understand their situation.
Some potential questions include:
Have you ever lived here?
What caused you to move?
What are your long-term plans for the property?
Their Perspective
Consider the situation from their perspective.
What is their Best Alternative to a Negotiated Agreement (BATNA)?
They may want to sell at the fair market value. However, it might cost to do so.
Lost Rent
The owner may lose months of rent as they get the property ready to sell. Then, it’d be on the market until they come to terms with a buyer. After that, time is needed to prepare for and close the sale.
It may take three to six months - or more - to sell the property at fair market value. The lost rent can get expensive.
Updates
Homes often require touch-ups for normal wear and tear before listing.
A fresh coat of paint, updated flooring, and general repairs add cost.
Landscaping
It’s important to maintain or improve the curb appeal of the property. Yardwork will revert back to the owner if you move.
Staging
People need to be able to see themselves in a home.
Staging it with furniture comes with additional cost.
Commissions
One of the biggest potential cost savings is real estate commissions.
While you may be able to purchase it directly from the landlord, you might still want to work with a realtor to help:
facilitate the purchase and
find backup properties in the case the deal falls through.
However, the commissions may be substantially lower with only one realtor involved.
At the very least, the landlord could avoid the cost of showing and marketing the property.
All told, selling the property directly to you could save the landlord tends of thousands of dollars.
Inspection
It’d be ideal to get a home inspection before submitting an offer. Double-check your lease to see whether an inspection is prohibited.
Your Insight
You can access the property and are intimately familiar with it!
It likely makes sense to walk the property with an inspector.
Ask questions. Mention quirks.
Doing so can be a great way to:
learn more about the property,
uncover negotiation opportunities, and
create a punch list of items to improve.
Bids
You might take the next step and request bids for the work. However, some service providers will only submit a bid to the owner.
Nonetheless, bids can help you:
decide whether to put in an offer,
finalize your price, and
plan cash flow impacts.
Tip: Only get an inspection if you feel the owner is interested in selling.
Make a Verbal Offer
You’ve spent a fair bit of time preparing.
The next step is to ask the landlord. The answer is no unless you ask!
Let Them Know
Meet with the owner. Let them know you’d like to make an offer.
Face to face meetings are best. A video call, phone conversation, or text message might work in the right situation.
Show them you’ve prepared. You may have:
engaged a realtor,
saved up a down payment, and
been pre-approved for a mortgage.
Thank them for being good landlords (if it’s true) and for the opportunity to live in their home.
Then, ask them whether they’d be open to receiving an offer.
This may or may not come as a surprise to them. Your previous conversation(s) may have them wondering.
Their emotional responses could vary:
excited about potentially receiving a cash windfall,
worried you’ll buy another property if they don’t sell,
flattered you like the property enough to make an offer,
curious whether they should raise the rent,
sad they might part with a home that has sentimental value,
interested to hear your offer…
Keep It Reasonable
They may want to hear your offer.
Share
Mention how they could potentially save tens of thousands on:
real estate commissions,
repairs,
lost rent,
staging, and the like.
Then, share the top-line number.
If they’ve lived in the home for two out of the last five years, mention they may be able to benefit from the tax exclusion.
Then, pause. Ask them their thoughts.
I like: “That’s a lot. What questions do you have?”
Substantiate
They may ask how you came up with that number.
Share that you based your offer on comparable recent property sales in the area.
You don’t have to give them all the details. If you give them your exact market estimate and the discounts, they may treat it like a menu.
Anchoring is powerful:
If you share an offer, they’ll focus on that.
If you share an offer and the fair market value, they’ll focus on the higher of the two since it’s in their best interest.
Ideally, your offer would be a bit below the market price because of the owner’s hard savings. Also, never lead with your best offer.
However, you don’t want your offer to be too low. They might decline your offer outright or decide to list the property.
Anticipate Questions
They’ll likely want to learn more.
Fair questions include:
Are you pre-approved for a mortgage?
Which lender did you choose?
Are you working with a realtor?
How large will your down payment be?
How much would you offer in earnest money?
Are you asking for any contingencies such as an inspection, appraisal, or financing?
How soon are you looking to close?
Are you requesting any repairs or updates?
Would you be open to either rent-to-own or seller financing?
What are your long-term plans for the property?
Would you like to include any of the appliances or furniture?
However, there are other questions I wouldn’t answer directly.
How much is your pre-approved mortgage limit?
I’d say something like: “I’m pre-approved for more than my offer in case we’re unable to come to terms and I need to buy another property.”
If pressed, I’d offer to get an updated pre-approval letter for the amount we discussed and share that with the landlord.
Are you considering any other properties?
I might say something like: “I did see some interesting properties on the market when I was researching comps. However, I wanted to speak with you about this property first.”
What is your maximum price for this property?
I’d say something like: “While I feel this is a fair offer for the property, I’d be open to considering several aspects of the sale like repair, rent, timing, and financing.”
What is your backup plan if financing falls through?
I might mention something like: “I’ve had good conversations with multiple lenders. After we come to terms on the purchase, I’ll evaluate and select the best lender. The second best be my backup.”
May show the home to other prospective buyers?
To me, that’s a bad sign. I would proceed as though we aren’t going to be able to come to terms. I’d explore other properties.
Listing the property loses benefits of selling to you as a tenant. Showings can disrupt your life. Also, it opens up the chance of a bidding war.
However, it worked for a family member!
The landlord offered to sell her the house she and her family was renting.
She and her husband did their research and made a low - yet reasonable - offer to buy it. They kept looking for other properties.
The owner proceeded to show the property while she lived there. In the end, he didn’t receive any better offers and accepted hers!
Expect a Counter
If the landlord is interested, they’ll likely issue a counter-offer.
They may do so with clarification questions, a verbal counter-offer, or a written counter-offer.
Listen or read carefully. This is a bit of a dance.
The owner isn’t just saying they want more. They’re also signaling their preferences and priorities.
Items important to them might not be important to you… and vice versa. Those could be good trading opportunities.
There’s nothing more convincing than a reasonable person.
It’s possible they’ll suggest something perfectly reasonable like:
extending the lease a few months,
conducting their own appraisal, or
offering to do some of the repairs.
Tip: Regardless of what happens, thank them for their time and consideration. They’re still your landlord!
Submit a Written Offer
Once you know your offer will be well-received, submit it in writing. Be sure to have a deadline for the owner to accept or counter.
Wait
Their next step is to either:
accept your offer as-is,
submit a counter-offer, or
decline your offer / let the deadline pass.
Steps After Acceptance
Pretend they accepted your offer. Congratulations!
The remaining steps are largely administrative.
Choose a Lender
As with other transactions, it helps to have options. Get at least two mortgage offers in writing.
Then, negotiate everything. Essentially every part of a mortgage is negotiable: interest rates, fees, points, etc.
One nice thing is the landlord has a tenant - you! They may be more willing to delay closing a bit to give you more time for financing.
Finalize Funding
You’ll likely need to share many documents with your lender, including:
signed forms (application, disclosure, and purchase agreement),
income documents (pay stubs, W-2, tax return, employment verification), and
proof of funds (earnest money deposit, credit statements, bank statements, investment account statements).
You may also need to:
submit your earnest money,
explain recent money transfers or income,
get homeowners insurance,
schedule an appraisal, etc.
Tip: You may benefit from a final walkthrough of the property with your realtor. While doing so may seem silly since you live there, it can be a chance to further discuss the home and next steps with your realtor.
Close
The loan is typically finalized at closing.
Documents
You’ll likely need to bring:
government issued photo identification,
a certified or cashier’s check for the down payment,
proof of homeowners insurance,
purchase agreement,
lender requested documents, and more.
Your Call
Always remember you’re the buyer.
Everyone else in this transaction has a vested interest in you paying more: the seller, realtor(s), lender, etc.
However, you have the power to stop at any time before closing. While you could lose your earnest money, you might avoid bigger expenses.
Hey, thanks for reading my post about designating beneficiaries.
Just a reminder, I share a lot of resources that can help you.
Disclaimer
In addition to the usual disclaimers, neither this post nor these images include any financial, tax, or legal advice.
