I was recently interviewed by Realtor.com for an article concerning rent-to-own contracts in residential real estate. While I don’t typically represent purchasers in these transactions, I was able to give some advice to potential rent-to-own purchasers. Here’s a link to the article on Realtor.com.

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In Texas, rent-to-own, lease options, lease purchases, and contract for deed are referred to as executory contracts. Executory contracts include any transaction that defers a material action by either party that pertains to ownership or possession of real property in the future. These types of contracts have been traditional tools for Texas real estate investors because the landlord/seller could induce the tenant/buyer into an arrangement and then evict them if they ever defaulted. Because a buyer doesn’t typically earn equity in the property (i.e., have any ownership interest in the property) until after the property is paid in full, this was an attractive arrangement for a seller.

In 2005, the Texas Legislature amended Chapter 5 of the Texas Property Code to heavily regulate executory contracts. In short, the Texas legislature placed many requirements on the sellers and these requirements must be met before the contract is signed by the buyer. More particularly, sellers are required to provide the buyer the following: a survey that is no older than a year, proof of no title exceptions that would prohibit construction of a house on the property; a title abstract or title commitment; an owner’s policy of title insurance; copies of liens, restrictive covenants, and easements; statutory disclosure regarding property condition; tax certificate; and insurance information on the property. Further, the code now requires that notice of the executory contract be recorded in the real property records of the county where the property is located.

Additionally, a seller is also required to provide a financial disclosure (similar to a lender in a typical residential loan transaction). The financial disclosure shall include: the purchase price of the property; the interest rate charged under the contract; the dollar amount of the interest charged for the term of the contract; the total amount of principal and interest to be paid under the contract; the late charge that may be assessed under the contract; and the lack of a prepayment penalty.

Similar to a lender, the seller must also provide an annual accounting statement pursuant to section 5.077 of the Texas Property Code. The accounting statement must be provided in January and includes the amounts paid, the outstanding balance, the number of payments remaining, the amount paid in taxes, the amount paid for insurance, an accounting for any insurance payments by the insurer, and a copy of the current insurance policy.

If a seller does not meet the statutory requirements, then failure to do so is defined by section 5.069(d)(1) of the Texas Property Code as a “false, misleading, or deceptive act or practice” pursuant to section 17.46 of the Texas Deceptive Trade Practices Act. The buyer is also entitled to “cancel and rescind the executory contract and receive a full refund of all payments made to the seller.” Additionally, regardless of validity, a buyer can rescind an executory contract for any reason within 14 days of signing.

“[A]t any time and without paying penalties and charges of any kind” the buyer has an absolute right to convert an executory contract to “recorded, legal title” in accordance with section 5.081 of the Property Code. If the buyer tenders the balance owed under the contract, the buyer has the absolute obligation to tender and record a deed.

The Texas Legislature exempted transactions where closing would occur within 180 days. The 180 days or less exemption exists as an accommodation to real estate brokers. Also exempted are options that are not combined with a residential lease and options on commercial property.

Our general recommendation is that landlords/sellers and tenants/buyers should avoid residential executory contracts because of the onerous requirements and potential liability for doing them wrong. The seller is penalized – even when the buyer was willing and eager to participate. The more prudent course for seller is to owner finance.