As a real estate investor and landlord, your job is all about mitigating risk and maximizing return. The more you’re able to accomplish these overarching goals, the more success you’ll experience. And while security deposits may seem like a small issue to outsiders, experienced landlords know just how much they impact both risk and reward. If you want to succeed, you must find ways to make security deposits less of a headache in your business.
Rookie landlords often incorrectly assume that security deposits provide adequate insulation from major risks. However, the fact of the matter is that security deposits only provide marginal protection against minor tenant-induced damages.
Security deposits don’t cover major damage, which could run you tens of thousands of dollars. And though it can be used to cover minor wear and tear, landlords generally face uphill battles when tenants disagree. (The courts typically take the side of the tenant when there’s any question about the damage.) Finally, consider that, in most states, you can’t even use a security deposit to cover unpaid rent.
Nevertheless, security deposits are important and should be collected. The key is to manage them correctly, so you don’t cause yourself more issues than necessary.
When managed properly – and combined with other safeguards – security deposits can provide some protection from damages. Here are a few suggestions:
The very best thing you can do is effectively tenant-proof your property. In other words, you can make it less likely that tenants will damage your property and that you’ll need to use the security deposit in the first place. Ideas include:
When interviewing an applicant, pay attention to what they say and how they interact. In particular, internal alarm bells should sound if a prospective tenant complains about a security deposit. This typically means one of two things: either the tenant doesn’t have the cash to cover the deposit, or the tenant believes he’ll lose his money. Either scenario is bad news for you, the landlord.
If possible, ask to inspect the tenant’s current residence before letting them sign a lease. This will tell you a little bit about how they care for their home – which is a pretty strong indicator of how they’ll care for your property. Does the individual seem clean and respectful, or more like a liability?
In addition to inspecting the applicant’s current residence, you should ask applicants to include at least one reference from a previous landlord (more are preferable). Then you need to place a phone call and speak with these references.
Landlords tend to shoot each other straight. If an applicant was a terrible tenant in the past, the landlord will let you know. They’ll also be quick to vouch for someone who pays on time and respects property.
A security deposit is designed to cover damage that goes beyond normal wear and tear of a property. But what is “wear and tear” anyway?
Texas state law has one of the clearest definitions of wear and tear in the country. It describes it as the “deterioration that results from the intended use of a dwelling…but [the] term does not include deterioration that results from negligence, carelessness, accident or abuse of the premises, equipment or personal property by the tenant, by a member of the tenant’s household or by a guest of the tenant.”
However, even that definition leaves some room for interpretation. If you want to remove some of the guesswork from the equation, you can get specific about what you consider normal wear and tear versus excessive damage. Include these terms in your lease agreement and review them with every new tenant. These terms may not be legally binding in the eyes of court – you can never be certain what a judge will rule – but they certainly help strengthen your position.
The move-in inspection is one of the more critical steps in this entire process. It’s absolutely imperative that you conduct the inspection with the tenant and make notes on every little detail of the property’s condition. The best option is to video record the entire thing. This gives you both video and audio proof, should a tenant try to convince you that some issue was present prior to moving in.
In many states, there are strict requirements on where a security deposit must be held in between the time a tenant pays the deposit and when the deposit is returned. But even if you’re in a state without specific rules, it’s wise to keep all security deposits in separate, interest-bearing accounts. This keeps your hands off the cash, avoids the risk of comingling funds, and even allows you to make a couple of bucks in interest.
The move-out inspection is just as important as the move-in inspection. Again, conduct it with the tenant present and make clear notes on every little problem you find. This can be cross-referenced against the original video/notes. Handling this process in the presence of the tenant ensures total transparency.
At Green Residential, we take pride in offering Houston-area landlords premier property management services and white glove treatment. Over our 30-plus years of industry experience, we’ve perfected a proactive and dynamic approach to residential management that remains unmatched by the competition.
Whether you need help developing contracts, screening tenants, or streamlining property inspections, we’re here to serve you. Contact us today and we’ll be happy to provide you with a free Houston property management analysis for each of your properties!
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