Property Damage VS "Wear & Tear"

Today we want to talk a little bit about wear and tear versus damages. How much of the depreciation, deterioration in our property is the tenant's responsibility and how much of it is just the cost of being a landlord?

All components in our house, from the carpet to the paint on the walls and even big ticket items like appliances have a certain useful life. For example, we think of carpet as having a seven year lifespan. If we get more than that, that's good. But if a tenant lives in our home for eight or nine years, it's likely the carpet's wore out and that's what we generally describe as wear and tear. And when we do think about what damages can we charge back to the tenant, the question in our mind is what will a judge agree with us is a damage on the part of the tenant?

They're going to live in your house. They're paying rent to live in your house. They're going to use your house. Their little kids are going to run up and down the hallways and they might touch the walls with their hands. And repainting those walls, the judge is going to say, "Mr. Landlord, you're in the landlord business. You have to figure some painting into your business budget." Anything that can be painted over, anything that come out of the rug with carpet cleaning is normal wear and tear.

On the other hand, damages. There's no excuse for a hole in the wall. There's no excuse for the carpet to be burned or torn. There's no excuse for ink or magic marker. People who let those same little children go back in the wall and doodle with a magic marker or an ink pen, we're going to charge them to undoodle those walls because it's going to require more than just a simple wipe it down and paint over it.

Another thing that's important to remember, it doesn't matter the volume of items that might accumulate, especially if we've had a long-term tenant. Let's be honest. In our home where we live, we're constantly fixing and tending to minor items or walk out on a Saturday morning and see something and deal with it. Or a Tuesday night we come home, something needs fixing, we fix it. Tenants don't have that same obligation, and oftentimes are not going to perform these little tiny repairs, and at the same time, we don't mind that they don't call us every month and ask us to come fix this or come fix that. And when they move out after many years, there could be a pretty good list built up. Regardless, it's wear and tear. Unless they've done something to damage our property, the deferred maintenance, all the things we've left alone, are all on us. We're in the landlord business.

Why it is important to have a solid reserve fund.

You're in the landlord business, and other key must-do is establish a reserve fund. This reserve fund, this emergency fund, is paramount to our goal to build wealth. We want to be able to stay on track, invest regularly without interruption, without a lot of extra pressure, without a lot of strain and pain. The idea is to grow our holdings and to build cashflow. Whether your goal is for retirement or for family needs or just so you can be generous; we want to keep this going without interruption. The obstacle that gets in our way are these unexpected losses, these unexpected expenses, and even the expected ones like ongoing deterioration. We might have vacancy, and of course, we all know that's the most expensive event for any landlord and there are going to be vacancies. We may have that month where the rent's just not paid on time, and it we can't let the pressure break our bag that we've got to make a mortgage payment because the rent's not in yet.

Costly capital repairs. There will come a day. We'll need a new roof. There will be appliances and system breakdowns. We'll have to replace carpet. We'll have to clean and eventually, we'll have to paint and refresh the place. We're in the landlord business; these costs are all part of our ongoing expenses. So, the plan. Our plan is to set aside or build a reserve fund, an emergency fund. If we have the funds in the beginning, great time to set $1,000 aside. Another key part of this strategy is keep our personal debt under control. I remember in the early days as an investor, I came out of my pocket to pay for the taxes or to pay the insurance because I was so close on the boundaries. At the same time, I wasn't really too worried about it, and my friends all had Harley Davidson payments or boat and trailer payments, and I didn't have those things.

So, to make an occasional house payment when I had vacancy or to pay the taxes was just not that big a strain. To me, it was sort of a a forced savings plan in reverse, if you will. Another piece of advice that I was given long ago and I continue to give to our investors today: Segregate your rental property into one bank account and leave those rent proceeds in place. Let everything just come in and build up, and be in the same checking account where the bookkeeping is simple. These funds build up when we do have an emergency, when an air conditioner dies or have to call a plumber, it's just no big deal, and eventually when we get beyond the emergency fund, we now are building seed money for our next investment. As we invest, we buy one property, we work it until the pressure's off, and then we're free to move to the second one.

Healthy reserves gives us this confidence and helps us get out from under the pressure of that property. After all, the goal here, when we're trying to build cash flow for life; we want to get beyond one or two properties. When you can retire, you can take care of parents or children real comfortably with eight or nine or 10 rental properties, and that's something that any of us can achieve in a lifetime if we're just consistently investing as the years go by. These reserves in place gives us this freedom to continue investing. It's not if you'll have unexpected expenses, it's when. You're in the landlord business.

When should I raise the rent?

You're in the Landlord Business, and today's question is when and how should we raise the rent? When our property is vacant, this is an easy question to answer. We go out and do our research. What are comparable properties available? We know that this can change even just from season to season. And then we want to make an offering that presents a good value to our tenant. We sign up a good tenant and in a good property, and we want them to feel like they've got a good value and they enjoy living in this home and will stay put.

When our property is occupied the dilemma is a lot tougher, and we have two factors that are a little bit at odds and we just cannot ignore either one. First of all, vacancy is the most expensive event for any landlord. It costs us more than just that month between tenants, that time to advertise and place a new tenant. But we also have to spend money on the property, now. We have to clean everything. We probably have to repaint rooms that didn't need repainting, and maybe replace a select carpet or two, because we have to make the property ready to compete in the marketplace for a new customer.

On the other hand, we also have to realize that virtually all expenses are increasing constantly. Our tax bill this year is more than last year. Our insurance went up again this year over last year. Even a gallon of paint or the hammer we buy at Home Depot. The labor for every worker that helps us is going to cost more than it cost a year ago. If we're not getting a slight increase in rent, we're actually taking a reduced profit, or reduced cashflow off of our property.

Can't tell you what to do but I will share our techniques with you. We try to be customer friendly, and we offer longterm leases so that our tenant, if they want to opt to commit for 24 months, can lock in a rental rate. It will not change for 24 months. Other than that, with few exceptions, we intend to raise the rent at each lease renewal.

We have to keep up with operating costs, like we just discussed. And again, I can't specify what that increase ought to be, but 5% probably is a good minimum and 10% may be pushing the line, and you just have to decide for yourself how fair you want to be, and what you think is fair.

We combine this, this time of a rental increase in a new agreement with a visit to the property. And this is proactive on our part ,and we actually want to go looking for maintenance needs that we might need to address. Things the tenant probably hasn't even reported. It's a good time to do it, and it's a goodwill gesture and shows them that we're interested in keeping their home in good repair.

Finally, let me share with you what I consider the big folly we've all been guilty of. We have the good tenant, the tenant who never calls in and complains. It never reports any maintenance need, pays the rent like clockwork. And when the lease renewal comes around, we're inclined to leave well enough alone and leave the rent where it was. And of course we have to examine what is the effect of this. We forego that little 5% increase, which may be $40 a month, which may be $300 or $400 or $500 a year. And of course after five, six, seven years of this leaving well enough alone, we've not only left the $3,000 or $4,000 or $5,000 on the table that we needed to do our deferred maintenance, but now we've got a person in our property renting for $800 when they should be renting for who knows, $1,100 or $1,200.

We've also allowed everything to build up and all this deferred maintenance to accumulate. Our tenant moves out after seven years, they haven't been reporting anything and we go in and of course the carpet is wore out. Everything has to be repainted. The leak we didn't know about has festered and caused damage. And not only are we looking at the dollars and dollars in dollars of all the deferred maintenance, we're also looking at three or four months instead of two or three weeks to turn our property around. And we're kicking ourselves for letting it go so long and never raising the rent.

How do I properly screen tenants?

You're in the landlord business and you need to know how to screen tenants properly. When your home becomes vacant, and it will in this business, screening tenants up front will help you alleviate the future problems that it may cause when you put a non-qualified tenant in place. We all know that the vacancy is a painful time and that each day that it sits vacant, you lose dollars in rent, so it becomes tempting to just put someone in place when they can come up with enough money up front. The other side of the coin is vacancy presents an opportunity to make sure that your house is in good condition, that you can get top dollar for your rent and also you put a good tenant in place so that you can have the long-term win. Here at Frank Moore and Company, we have a set of criteria that we use that focuses on four key points.

One of them and one of the most important, is the credit score and I can't tell you or recommend how to set up your screening criteria, but we use a threshold where we've set a minimum credit score for each applicant when they're applying for a property. Then, there's the landlord reference. This is very important because you can get some insightful information from previous landlords on how the tenant paid rent, how their communication was, if they bounce checks, how they left the property condition when they moved out. The income verification is something you want to look at and you want to get some documentation to show you their pay stubs or letter from the employer on making sure the tenant makes enough money each month to cover the rent. Again, here at Frank Moore and Company, we use three times the monthly rent as the gross income multiplier to make sure that we're setting the tenant up for success and our clients up for success.

The criminal record search is something you want to do to make sure that the person moving in is of good character and of course you want to take into consideration if there has been an offense, how long ago has it been since the offense and what the weight of the offense is. Then, doing a search in your local court system of your county and your magistrate court will show you if there's any open dispossessories or very recent dispossessories that may have not shown up in the national criminal report you get. When you develop all of these areas, you want to go through and put them in writing and which will be your qualifying guidelines that you use each time you get an application, so that you can be consistent. It's going to make it a lot easier than having to reinvent the wheel each time and also it helps you be objective to each applicant coming in.

Then, of course, if you ever get a fair housing claim, you can turn around and hang your hat on these qualifying guidelines that you've got in writing. Speaking of in writing, when you turn away an applicant and they don't qualify, you want to give them an adverse action letter stating why you have denied their application and you also want to issue an adverse action letter if you're making the tenant pay more than one time the security deposit. Screening tenants isn't going to alleviate all the issues you may have, but it will help you solve many of them. Remember, you're in the landlord business.

What to do when the rent is not paid?

You're in the landlord business, the rent must be paid. It's never too early to make this expectation clear and nonnegotiable. One of our favorite lines when we used to sign leases in person, "If you don't pay the rent, it takes all the fun out of it for us." We would also say, "It's important to understand if you don't pay the electric bill, they'll turn your lights off. If you don't pay the rent, you won't be living in our house."

I mean, let's face it. We all know every financial transaction is a two-way street. One party delivers goods and services and then they expect payment in return. We never go in a restaurant and order dinner and then leave without paying. We never walk out of a department store with something in our pocket that we didn't stop by the cashier and pay for. But for some reason, when it's rent, the whole concept gets a little cloudier. Maybe because it's a bigger sacrifice or requires better money management to do the right thing, but I promise you at some point, the day will come when the tenant will bring you an excuse instead of bringing you the rent.

What if their transmission goes out. They need new tires. They've had a death in the family. There are no end to the list of other emergencies. Regardless of the reason, we must collect rent and we must teach and emphasize that rent is a number one priority. Mr. Tenant, put it at the top of your list. Remember the basics: shelter, food, clothing, utilities. When you say to me, "I can have you the rent on the 20th," you're basically saying, "I need you to loan me the money for the rent from now to the 20th," and there are a lot of good sources for these loans like your friends and family and maybe folks at church, maybe the Salvation Army but not us. We are the landlord, not the bank. Our clients expect us to give them rent, not make a loan on their behalf.

We want to collect this month and we want to set expectations for all the future months. Landlords also need to know a failure to act means the clock doesn't start. Only with legal action can we get this process going. You should file a dispossession warrant and send a demand for possession letter no later than the 10th or the next business day. Most leases provide a grace period, maybe three days or five days, and you can act on the next day. I want you to know, a tenant can regain their good standing. All they have to do is pay in full the rent, the late fees, the filing fees, and reimburse the legal fees and all is good. They don't have to move out. But because it takes us three weeks to gain possession, three weeks to go through the legal process, it's important that we crank it up by the 10th.

Bear in mind, if it does run to fruition and we get our house back, it's not going to be rent-ready the day we get it back and a month will be gone. It's an important business practice. Start that clock, start legal action. Throughout all this, it's essentially important that we are fair and we treat all consistently. Good ethics and fair housing laws all demand that we treat all parties with uniform processes. If we do a special favor for one, perhaps a tenant that we particularly like, that could be judged to be unfair to another tenant who doesn't get the same opportunity or the same waiver or the same exception.

If we're going to make exceptions in our policies, let's define them in advance. Let's go through the guidelines. What are we willing to do? When are we willing to do it? That way, we can adhere to these with all of our customers the same. We want to stay in business, we must collect the rent. We want to always be respectful and we always act lawfully. You've all heard the story of the landlord who goes over and takes the front door off and says, "Hey, I'll be back in a few days. I got to do some repairs when the rent comes in." Don't do that. Stay within the law. Show respect. The entire tenancy will be affected positively by your willingness to insist on payment as agreed first time every time. May not be fun, but it's necessary. Remember, you're in the landlord business.