Rent-Back: What It Is and Why Sellers Ask for It
This graphic would be a better analogy if there were a lot more puzzle pieces... that didn't exactly all fit together correctly and had to be jammed into place sometimes...
Otherwise known in the Portland metro market as the "Agreement to Occupy After Closing", rent back is a very common part of real estate transactions.
What is Rent-back?
If a homeowner would like to sell their home, but needs time after closing to vacate the property, then they ask for rent-back.
After the home has closed and the buyers become the new homeowners, they also become landlords as the previous homeowners become tenants. (Is this confusing yet?)
It's called rent-back because usually the sellers rent the home back from the buyers for a specified period of time.
Why Would a Seller Ask for Rent-back?
Here are a few reasons why:
They are looking for a replacement property and would like enough time to find a home, place an offer, get it accepted, and make it to closing.
They are concerned about what would happen if the buyers fell through and want to make sure that closing happens before going through the process of moving.
They have lots of stuff and it's going to take time to get everything out. Or, they are using a moving/relocation company that needs a specific amount of time after closing.
They are already under contract on another home, but it makes sense to have a short rent-back period to line up closing dates and moving dates.
You may ask, in that first scenario, "If they are trying to find a replacement property, why didn't they find one before placing their home on the market?"
Well, I'm super stoked that you asked that. Let's use an example!
Example Time!
"There’s no aspect, no facet, no moment of life that can’t be improved with pizza." - Daria
"Jane Lane" would like to find a single level detached home in Bethany closer to where she works and sell her totally-rad but not conveniently located condo in NE Portland. She can't qualify for two mortgages at once.
Jane gives her agent "Daria" a call who treats Jane to some pizza and goes over a few options:
Look at properties and place offers contingent on the sale of her current home. Any offers accepted before Jane finds a buyer for her condo would result in the new home being changed from "Active" to "Bumpable" status. This means that while she is under contract to purchase the new home, another buyer could come in and make an offer that the sellers choose to accept. If Jane and Daria aren't able to quickly remove the contingency to sell the condo (find a buyer for it within a day or so, or find a way to qualify for the loan without the contingency to sell her property), then she would get "bumped" when the seller accepts the other buyer's offer.
Place her current condo on the market and find a buyer before placing offers for a new home. In this case, after she is under contract on her current home, Jane's offers will still be "subject to the sale of existing property", but the new property would go into "Pending" status and other buyers would not be able to "bump" her.
Do everything in number 2 above, but also make the sale of her current condo "subject to finding a replacement property". In this case, the sale of the condo could not close until she finds and closes on a new property.
Jane wants to find a reasonably affordable, single level, detached home in a very popular area (Bethany buyers, contact me to put together a strategy!). Daria advises her that since we are all living in a sick, sad world, they are likely to face competition with other buyers. Placing offers that are contingent on the sale of her current condo, before she has found a buyer for it, might not be competitive enough to get an offer accepted. And, even if she is able to go under contract, Jane runs the risk of getting bumped by other buyers.
In order to be more competitive, Jane Lane and her agent Daria may choose to list the condo for sale and find a buyer before placing offers on Bethany area homes.
All of this means that it is likely that she'll need a rent-back period in between closing on the sale of her condo and closing on the purchase of a Bethany property.
(Bonus points for anyone who got those references.)
How do You Work Out the Details of Rent-back?
In the Portland metro area, there is a standard form commonly used by Realtors to arrange rent-back. This is called the "Agreement to Occupy After Closing". Not to be confused with the "Agreement to Occupy Before Closing". That's a whole other blog post!
There are several different options on the form that can be utilized depending on the situation.
Here are just a few important terms and conditions to discuss/negotiate:
Timeline: Specific end date of the rent-back period, or number of days of the rent-back period after closing.
Compensation: How much the seller is paying the buyer for the rent-back period.
Method: Is the compensation being handled at closing through escrow or in installments directly to the buyer?
Late charges: If seller is paying in installments, amount of late charge per day and when it starts.
Occupancy: How many people and pets can occupy the home during the rent-back period.
Security Deposit: Deposit amount and whether or not it is paid directly to the buyer or escrow.
Disputes/Damages: There is a lot of language in the agreement regarding the responsibilities of the parties, condition of the property, damage, failure to vacate, etc.
Insurance: Type of insurance required of the buyer and seller and details regarding coverage requirements.
Are there Risks for the Buyer?
Risk vs Fun
Definitely. As a buyer, once you close on the purchase of a property with a rent-back agreement, you become a landlord. Congrats! You are now a member of one of the most despised group of people in Portland right now!
Even though it is likely for a short amount of time (it's pretty much always 90 days or less due to lender requirements and usually much shorter than that), you still run the risks of any landlord-tenant situation.
For instance, the seller could refuse to vacate by the end of the rent-back period. They could cause extensive damage to the property. They could fail to pay the rent-back amount (if it's handled outside of escrow). They could leave large amounts of trash and other personal possessions that you'll have to deal with. They may dispute the terms of the agreement or demand unreasonable accommodations... the list goes on.
While the Agreement to Occupy After Close includes plenty of language to help in these situations, it doesn't mean that it won't be difficult for the buyer/landlord to remedy the problem.
For instance, if the seller/tenant refuses to vacate by the end of the term, then the buyer/landlord can give a notice to vacate the premises within 24 hours. After that time, if the seller/tenant is still there, then the buyer/landlord can initiate eviction proceedings.
It's great that the language for this process is clear, but if you were planning on moving into the property and have to delay, or even find interim housing because of the problem, it causes an enormous amount of stress and can cost a lot of money and time.
Why Would a Buyer Agree to This???
Is the dream home worth the calculated risk of offering rent-back? That's a solid maybe!
In a nutshell... because they want the house.
This is still a low inventory, seller's market (even though I think it's starting to slowly become more balanced) and many people ask for rent-back. Allowing rent-back might make your offer more attractive to the seller than a higher offer without rent-back. This makes it a calculated risk that is often worth the reward.
If you are a buyer considering a property where the seller wants or requires rent-back, then make sure to carefully weigh the pros and cons with your Realtor. If you move forward, then do your best to prepare a backup plan for your move-in date just in case a problem with the seller/tenant should occur.
While the risks I enumerated above might sound, umm... risky... usually rent-back works out well for the buyer and seller.
Often, the buyer simply charges the seller the amount they are paying for their new mortgage, including PITI (principle, interest, taxes, and insurance). This is an equitable way to calculate it for all parties.
