One of our firm’s primary and fundamental mantras for building wealth is to buy at least (1) one rental property a year.
Now of course, we realize that not everyone is in the proper stage of life, has the resource, know how, or even the proper mentality it takes to be a property owner. However, whenever possible, it should be considered as part of a comprehensive financial and tax strategy plan.
We also know that property ownership comes with risk and want our clients to recognize this. Buying a cash-flow property can be challenging in and of itself, but then trying to find the right kind of tenant and property manager can make a good deal bad very quickly.
But please don’t be discouraged or daunted. The rewards of a rental property can be significant and far exceed Wall Street mechanisms for traditional retirement, not to mention the supplement to social security.
The trick: education and making calculated and careful decisions based on that education.
Some of you may turn this task over to a “Property Manager” and one may say that is what you pay them for. But you should at least know the basics in order to better find and manage the ‘proper’ Property Manager.
One of those procedures that are crucial for success is to have an established protocol for locating good, quality tenants. The only thing worse than a vacant property is having a property occupied by a bad tenant.
6 Steps in Finding a Good Tenant:
1. Prepare for an Eviction: It’s not if, but when. We know that may sound pessimistic, but having a realistic expectation of the worst case scenario will cause you to be more diligent in your application process and procedures for late rent.
2. Get Financial Records from Tenants: Have a detailed application that elicits employment, rental, and financial information and require all applicants to complete the application in its entirety. The application should be accompanied by a list of information and documents that will need to be submitted along with the application (e.g. driver’s license, paystubs, bank statements, etc.). This will help you out in the future ‘collection proceedings’ if the tenant defaults. Be wary of applicants that omit material information on the application or are reluctant to document the information on their application (i.e. with paystubs, bank statements, W-2s, etc.). Also be aware that as a landlord, you have a legal obligation to implement measures to ensure the security and confidentiality of financial information you receive from prospective tenants.
3. Have a minimum formula or criterion for accepting Tenants: You cannot use criterion that is illegal (i.e. race, sex, religion, etc.), but you can require appropriate financial guidelines for your applicants. For example, you may require a credit score above a certain level, six months of employment, or three months of living expenses in the bank. These are good screening tools to weed out applicants that are obviously unqualified. However, do not use such criterion as a ruse for unlawful discrimination. Applicants should be evaluated based on their total circumstances.
4. Screen Tenants: Do not rely on credit reports or background information supplied by the applicants themselves. Rather, use a reputable third party reporting agency that can provide credit history, prior evictions, and a background (criminal) check as well. Many urban areas have landlord associations that offer this service or you might Google “tenant screening” in your local area for leads on reputable tenant screening services.
5. Check Tenant’s References: Contact prior landlords and current employers. We know this is a pain, but very important. Many tenants will lie on an application and not expect new landlords to take the time to make these calls. Don’t cut any corners. If you’re nervous you may not know what to ask, some questions to ask a prior landlord may include:
a. Did the tenant pay rent on time?
b. Did the tenant damage the property?
c. Did the tenant care and maintain the property?
d. Did the tenant abide by all the terms and rules of the lease?
e. Would you rent to this tenant again?
Some laws or policies restrict the information that can be provided by an employer in response to a call from a prospective landlord. However, the employer should be able to at least verify the fact of employment and opine whether that employment is expected to continue for the foreseeable future.
6. Have a Detailed Rental Agreement: Of course, it almost goes without saying, have a comprehensive and detailed rental agreement. It should be tailored to the property so that the applicant’s expectations with respect to the property are established from the very beginning. We encourage all of our clients to have their Rental Agreement in Word format so they can modify it and improve upon it over time. There are always new provisions that you may want to add as you encounter new situations with tenants unique to your property. Don’t let your attorney or property manager hold you captive and not allow you to have ownership over your own agreement. Maintaining a well thought out and comprehensive rental agreement is an important part of an overall asset protection strategy.
In summary, owning rental property can certainly be rewarding financially when undertaken properly. To have a property where you receive rent every month and feel the power of investing is amazing and emotionally liberating.
Be careful to set-up your protocol and be tough!! Stick to your guns and don’t compromise your system. It will set you free and keep your property rented with quality tenants.
Mark J. Kohler is a CPA, Attorney, Radio Show host and author of the book “Lawyers are Liars- The Truth About Protecting Our Assets”. and “What Your CPA Isn’t Telling You- Life Changing Tax Strategies”. He is also a partner at the law firm Kyler Kohler Ostermiller & Sorensen, LLP and the accounting firm K&E CPAs, LLP. For more information visit him at www.markjkohler.com.