Rent-to-Buy in Spain explained

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3 April 2024, 9:00

The lax monetary policy from central banks, printing money to no end, over the last years has led to a huge inflation spike. As a result, the price of money (interest rates) has soared to keep inflation at bay.

High interest rates lead to high monthly mortgage repayments, which in turn creates a disincentive for home buyers to get onto the property ladder (at least at these high prices) which drives property prices down. Savvy home buyers would rather wait it out, playing it safely, and sit on the side waiting for a generalised drop in house prices.

It’s no secret that high interest rates kill the real estate market, as in effect it weeds off home buyers reliant on mortgage loans which account for 70%, or more, of buyers. This means that cash becomes king, and cash-buyers are now on the prowl. Unsurprisingly, over 70% of house sales in Spain are completed by cash-buyers who do not rely on mortgage finance to close deals.

A smart way to go about this market uncertainty (on where house prices will be heading next) is to see how the market plays out whilst you play it safely.

A Let-to-Buy contract does precisely this. It allows a would-be-buyer to test an area as tenant, with a right to buy the house should they accept.

Definition: Let-to-Own contracts

This type of contract (“contrato de alquiler con opción a compra” in Spanish) allows you to lease a property, whether off-plan or resale, with an option to buy within a given deadline, normally spanning 1 to 3 years. The main advantage is that the monthly rental is discounted in full from the sales price. So, if the tenant decides to buy the property within the deadline, all the paid rental (rental premium) is deducted from the pre-agreed sales price. Alternatively, should he chooses not to, he can walk away scot-free (losing the rental money).

This contract has multiple advantages, for both grantor and grantee, in the context of an inflationary environment, such as the one we are in. If you believe property prices in Spain will fall steadily over the next years, rent-to-buy will strongly appeal to you.

The advantages under normal circumstances far outweigh the potential disadvantages. It is worth noting that the below listed advantages are certain to take place under normal circumstances; however, the disadvantages may, or may not, take place, which is why I label them as ‘potential’.

A Let-to-Buy contract is a smart (and safe) move in a moving real estate market when economic cycles change from boom to bust.

Advantages

1. For the option holder (grantee, tenant, or buyer)

Foremost is the flexibility it allows you.

You can actually withdraw from the contract as if it were a standard tenancy agreement should you spot a better opportunity within the next years, forfeiting the lease of course. At no time are you forced to buy the property at the end of the deadline, it’s your prerogative. This lack of commitment actually enables you to be on the prowl looking out for other opportunities without being tied down legally.

As written in the definition, the rent premium is deducted in full from the sales price, so it is not forfeited as would be the case in a standard tenancy agreement.

The pre-agreed sales price of a property is normally well below the current market so as to provide a reasonable incentive to prospective buyers. A markdown varies from contract to contract, but it generally ranges from 10 to 20 per cent from the current sales price. This helps to offset the risk of property prices decreasing even further over the next years as the pre-agreed sales price has already factored this drop into the price. By the same token, should property prices increase again, the pre-agreed price is respected. Win-win.

It allows you the opportunity to scout the area and get to know your neighbours, the local amenities, etc before you move in for the kill (commit to purchase).

If you are still based abroad, and find yourself constantly commuting to Spain, this contract is a great option as it gives you freedom and you only need to commit should you decide to - no strings attached.

You may freely agree on a suitable time frame to exercise the purchase option tailoring it to suit your own needs. Normally spanning 1 to 3 years, but can be agreed otherwise.

In some contracts you may assign the option to buy. This allows for even greater flexibility, as the would-be buyer can assign the buy option to a third party allowing for a speculative angle.

Unlike in the UK, there is no option fee to be paid on exercising the option right to buy the house.

For off-plan, you can actually claim back the VAT you are paying in a developer’s lease. You are entitled to claim back the difference only if you exercise the option to buy from a developer. It is advisable this clause is specifically worded into the contract.

You are actually living in the property that will be yours in a near future without being riddled with the associated stress of applying for a mortgage loan. Although you may not qualify for a mortgage loan at present, you may qualify in a few years’ time when the credit market turns the corner and begins a new economic cycle.

If the property is located within a community of owners, on living in it, you will learn of the internal problems and strife which may be non-apparent to an outsider. You may possibly never gain knowledge on all the insider quirks had you not gone through the hassle of leasing a property and lived in it. Not least, is worthwhile mentioning that you will not be expected to pay the community fees, these will be taken care of by the landlord.

The applicable laws will normally be Spain’s Tenancy Act and the Spanish Civil Code, as well as your Rent-to-Buy contract. Tenancy laws in Spain are heavily biased towards tenants for historical reasons, so it’s always a good idea to be protected by them. I advise lodging this contract before the land registry for further protection.

2. For the option giver (grantor, landlord, or seller)

The advantages are self-evident.

Foremost, you actually have a tenant who is genuinely keen in buying your property, not just in renting it out; in other words, he’s not a time-waster. An option to buy actually increases the pool of genuine potential buyers, as it makes it easier for them to commit (given how the rental money is discounted from the sales price should they exercise the buy option).

Besides, the rental money can help offset any mortgage repayments, community fees, or any other expenses avoiding a landlord slipping into arrears. The rental money alleviates a struggling landlord’s financial situation if money is tight.

Additionally, having a sitting tenant ensures the property will be well kept. It also avoids break-ins, or in the worst cases squatters.

On long-term options (3 years plus), it is normal to include as well an option fee. If you’re tenant defaults, you can pocket it besides the let’s deposit, and the rental premium. It’s a win-win.

(Potential) disadvantages

1. For the option holder (tenant/buyer)

You are actually letting a property. You must ensure you will be able to meet the let on time, otherwise you will be breaching the contract. Bear in mind currency exchange rate fluctuations if you’re source of income comes from abroad i.e. sterling pounds or dollars against the euro.

As it’s a let, the rent premium may be revised annually by your landlord bringing it in line with inflation. Spanish tenancy agreements are normally referred to the Consumer Price Index (IPC, in Spanish).

For very long-term options, exceeding 3 years, an additional deposit (option fee) may be requested by the landlord besides the normal 1 or 2 months’ deposit for letting out the property. This may not appeal to everyone of course but it is done as a sign of a serious commitment on behalf of the potential buyer.

The main disadvantage is that these contracts last typically 1 to 3 years and in the interim the landlord’s financial circumstances may change – for the worse – i.e. if the property has a mortgage loan taken against it and the landlord defaults, it may lead to a full-blown repossession procedure. You would still have a right to let the property if it’s repossessed, as the lender must respect long-term tenants, albeit you may no longer have the option to exercise the property purchase in the same conditions as you agreed to initially. You would actually have to raise the funds now and pay off the outstanding mortgage on the property if you wish to buy it off from the lender. Not to mention that if you additionally paid an option fee you would likely forfeit it in the event of a foreclosure. But truth be said, lenders are showing themselves very flexible with property prices they own, allowing for plenty of wiggle room to negotiate and close a sale. It is a buyer’s market after all, and they are unlikely to let go easily of a potential buyer caving in where necessary to secure a sale. After all, lenders are not into the rental business, they just want to sell and move on.

Buyers prefer long-term options to build up equity, allowing them to keep a close eye on where the property market will be heading next. Short-term options appeal to vendors but on doing so they will be reducing the pool of potential buyers as few buyers will be interested. It’s a tug of war on which a consensus, balancing both opposed interests, must be sought. At the end of the day concessions will have to be made by either parties to strike an agreement.

An important problem to consider is committing yourself on a pre-agreed price that on the long run, despite the built-in discount acting as an incentive, may still be above the current market price. Obviously, it makes no sense to execute the buy option if you are buying a property above the current market value. It would then be a case of a lost opportunity; what could you have done with the rental money if you hadn’t signed this contract? At no time are you forced to buy the property, but you will of course forfeit – in full – the paid rental (opportunity cost) negating the main advantage of pursuing a let-to-buy. If you are of the opinion that property prices will be cheaper in say five years’ time, you may want to hold out a little longer until you sign a rent-to-buy contract.

2. For the option grantor (landlord/seller)

From the grantor’s perspective, it’s that you are letting your Spanish property with a potential view to selling it on at some point in the future. Letting entails the risk of the tenant defaulting, becoming a non-paying tenant in which case a formal tenant eviction procedure needs to be followed. This risk can however be mitigated to a great extent on requesting long-term options (exceeding 3 years), a deposit (option fee) from the option holder as a token of good will, or else you can always include an arbitration clause in lieu of having to resort to the civil courts which brings down significantly the timescale – and costs – on having the non-paying tenant removed from your property.

The opportunity cost. On signing this agreement, you will be held legally bound for whatever timeline you’ve agreed upon. This is particularly aggravating in the event of a cash-buyer popping out of the blue. Although it may sound unrealistic given today’s bleak outlook, should the market pick up again, property prices will rebound, so this must be carefully weighed in. By accepting a rent-to-buy contract a landlord implicitly gambles the market will remain subdued over a long period of time (years). It makes no sense whatsoever to grant this option if you expect the market to rebound in a couple of months, or years.

It goes without saying you will have to carry out a thorough screening procedure on potential candidates weeding out unsuitable profiles. Fortunately, you can now rely on external tenant databases, and companies which can greatly assist you eliminating professional non-paying tenants that abuse Spain’s legal system.

In conclusion

Rent-to-own may not be everyone’s cup of tea, albeit it is a very interesting option to pursue if you’re serious and committed on buying a property below the market value (BMV) taking advantage of today’s market turmoil at tomorrows prices.

On following it, you will simultaneously retain a certain degree of freedom should either your personal circumstances, or the markets’, change. Buying property is always a serious decision for most people, and this type of contract actually allows you the flexibility to live in the property without being forced to buy it.

When the market picks up again in “X” years’ time (take your pick), these contracts will no longer be as widely available as they are today, both on off-plan and resale property. It is precisely the current financial uncertainty that drives landlords (and developers) to offer this type of contract that may benefit them and would-be buyers (option holders).

Those who are resolute on buying a cheap property, which has already a contractually (heavily) built-in discount, in relation to today’s prices, may already profit from the current market uncertainty by removing all the associated stress. You no longer need to put yourself through all the aggravation of second-guessing where today’s property market will be heading next. Might as well leave all the guessing work to ‘experts’ throwing darts, and just play your cards safely securing a 20% sales discount by rapport to today’s market prices.

And to close, I recommend you hire a Spanish lawyer to either draft this contract or to review an existing one so as to avoid rash decisions that may lead to costly mistakes. The best advice I can give is that it’s always much cheaper on the long run to pre-empt legal mistakes before they are made.

Remember, only because a sales contract is labelled as a “let to buy” it doesn’t automatically qualify it as a good deal; it could very well be a raw deal. Especially if the built-in discount is not high enough to offset the risk of prices decreasing over the next years, which in today’s market seems rather likely.

In a nutshell, Rent-to-Buy contracts allow the freedom to buy a property today at tomorrow’s prices, removing all the associated stress. Why wait?

Related services available from LNA:

At Larrain Nesbitt Abogados (LNA) we have over 21 years’ experience assisting foreign clients buying, selling, or renting properties in Spain. We offer a competitively priced accounting service to file your landlord taxes every tax quarter nationwide. We are also specialised in litigation, and immigration & residency visas. You can contact us by e-mail at info@larrainnesbitt.com, by telephone on our UK line (+44) 07543 838 218, our Spanish line (+34) 952 19 22 88, or by completing our contact form to book an appointment.

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