Q&A: Rent to Own in QuickBooks

If you’ve signed up a tenant with a rent to own structure, there are unique requirements for recording the transactions. Here’s a recent question from Gloria.

How do i book rental income that is no longer rent but going to be payments for a purchase of property for 250,000 tenant pays 3500.00 a month towards payment?

Create a receivable? Chart of accounts “options to purchase” Asset? Help …

Great question. This can be complicated, and we recommend you work with an advisor.

Rent to own, or an Option to Purchase, is a contractual agreement between buyer (lessee) and seller (landlord). The buyer purchases an option to buy the property later. In your books, that will be recorded in a liability account (just like security deposits). Buyer and seller likely decide on a purchase price then, or let it fluctuate with the market. Traditionally, a price is agreed upon in the option. Both parties negotiate the terms, and the buyer (lessee) has exclusive rights to purchase the property during that time period. If the buyer eventually buys it or not, the option to purchase is non-refundable. Then, each month as the lessee pays rent, a portion of that goes into the purchase price. Over time, they “prepay” for the purchase, in addition to pay rent.

The initial option payment is not income until the renter exercises the option, or forfeits the option and leaves. So the initial deposit of the option payment posts to a liability account “Option – 123 Main St.”

Then, monthly payments often are counted towards a future purchase of the property. For a $1200 rent check, it could post like the following journal entry:

Cash Dr $1200
Option – 123 Main St  Cr. $100
Rental Income  Cr. $1100

Sometimes in option agreements renters also need to pay property tax and insurance. It is the same as if you were paying to an escrow / impound account when you get financing from a bank. In the above option, it would decrease the rental income, and credit another liability account for Impound.

This is just a start, there are other things you still need to consider such as if the tenant surrenders the option, or exercises it.

Great question – you were on the right track asking this question. We look forward to a followup in the comments below.

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Rental Properties Legal Entity Choices – Sole Proprietorship, LLC, or Multiple Entities?

As an investor in rental property, you have several important priorities.

  1. Delight your tenants so they stay, refer friends, and pay on time.
  2. Protect your personal and business assets.
  3. Grow according to your goals.
Creating a formal entity is very important to shield you from personal liability for actions taken by the business.

Sole Proprietorship

Operating any business as a sole proprietorship is generally not advised by attorneys as you are exposing yourself to personal liability if something happens in the business. This is not an actual entity, but rather the “default” that happens when you just start doing business. Some people start this way, but then have to transfer that property into a different entity. (See section 4.08, Transfer a Property you own into your Company in the full guide ($)).

Limited Liability Company, or LLC

This is very common among real estate investors and management companies. This is the structure assumed in the sample company files in our guide. Laws differ from state to state, and LandlordAccounting.com does not provide legal advice. Consult your attorney. Nolo is also a great place to start reading legal books about setting up your entity.

S-Corp / C-Corp

S-Corps are still a popular option, although in recent years LLC’s have become much more popular. C-Corps are rarely advisable due to their inefficient tax characteristics compared to other entities.

Multiple Entity Structure

You may consult with your attorney and resolve to create several entities. Some may hold assets but not be exposed to liability, and others do the management (liability activities), but do not own the assets. This is sometimes referred to as the “Hot entity / Cold entity split.” The hot one has all the risk, but no substantial assets.

One QuickBooks company file is designed to handle bookkeeping for one company. If you are using a multiple entity structure, you have a choice: one file, or several files. If one file, you could use classes for each entity and sub-classes for each property or owner. Some companies chose to create an account for each entity, and duplicate sub- accounts (like Rent Income and Maintenance Expense) under every entity’s account. Different files could also be used for each entity.

Intuit would want you to create separate files for each entity, because their tax line mappings are designed for one file to map to one company. And, when creating Balance Sheet or P&L reports they default to include all accounts. If you go this route, it will take some effort to and open and close and enter transactions in each company file. But, reporting will be straightforward. (And, recent year’s QuickBooks support opening several company files at once).

See also other posts and discussions on multiple entities.

Order our full training on managing properties in QuickBooks today. It comes with a money back guarantee. And thousands of customers love it (read testimonials ♥).

See pricing information for QuickBooks training for Real Estate