A purchase-option contract lets the buyer-optionee purchase a property at a specific price within a certain period of time. If the option is exercised, a closing is held and the property is purchased at the price previously agreed upon. There is no legal obligation to buy the property. But, if the optionee does not exercise the option, the deposit paid to the seller-optionor is forfeited.
The biggest differences between the purchase-option and direct ownership may be two advantages from the viewpoint of the investor: First, the short term (6 to 24 month) purchase option contracts can be an outstanding way to control property without assuming the responsibilities of ownership. Second, the contract enables the optionee to receive all of the benefits from appreciation in market value of the property.
Basic Responsibilities Eliminated
There are five basic responsibilities of property ownership that are eliminated by using the purchase-option contract:
Long-term Commitment. With many investments, there will be no cash profit from property ownership until the property is sold. With the purchase-option, the responsibility for a long-term commitment of ownership is eliminated. The optionee’s commitment is short-term only, with the ability to sell the option, buy and immediately sell the property, or never buy the property.
Mortgage Payments. There are no mortgage payments made by the optionee. He has eliminated the responsibility to “pay for” the property during the period when the purchase-option is open and unexercised.
Property Management. There will be no responsibility with respect to managing and maintaining the property unless the optionee exercises the option and takes possession of the property. In a straight purchase, the buyer must begin maintaining and managing the property right after closing–a time consuming and costly responsibility.
Cash Payments Required. As we all know, property ownership involves payment in full or cash down payment (10% to 25% or more). When the property is controlled with the purchase-option, the down payment is replaced by an option deposit (the consideration in the contract), that can be in a much smaller amount, perhaps in the 1% to 5% range.
Financial Liability. Optionees have no financial risk in the property other than the amount paid in the option contract. The property owner must pay the property taxes, mortgage payments, insurance payments, maintenance and repairs and any other obligations of ownership.
The optionee has the specified period of time that is in the term of the option in which to buy the property or decide to pass. During the time, the optionee can evaluate the potential and make those decisions. It is certainly the best way to hold a property for an increase in value over a very short term.
Control Of Property
Most real estate investors have traditionally been attracted to commercial real estate opportunities. Typically these investors have been well rewarded for their investment. Properties that are designed for “doing business” proliferate and succeed as businesses grow and diversify and become more and more profitable. For investors to be successful it is normally important to understand the operation of the particular commercial enterprise involved in the real estate investment.
However, some investors look for the short-term investment with less of an emphasis on “doing business” and more pre-investment research on controlling property for the maximum gain in the short term. These investors often use the option or purchase-option.