Mortgages and Being a Successful Landlord

If you are ambitious, energetic, smart, and have some money and good credit, owning a rental property might seem like a great idea, but you also need a wide tolerance for the many things that can go wrong.  The challenges are always there, especially if you are taking the hands on approach to property management.

There are also many legal and logistical hurdles, and you need the right accountant and lawyer to make sure you are on the right path.  There’s a lot of work involved in being a landlord, and if you don’t do it right, you can end up losing money.

Mortgage loans used to acquire property for rent have a higher standard than other mortgage loans.  Home mortgages for rental properties will require a larger down payment and entail a slightly higher mortgage rate. 

Mortgage lenders view rentals properties or non owner occupied properties as home loans that entail a much greater level of risk.  Since the risk is higher for the mortgage lender the standards to become approved for a mortgage that is used to purchase a non owner occupied property is more rigorous. 

The starting point of the tighter lending standards is a larger down payment than there is on a standard owner occupied home loan.  On top of that requirement, the mortgage rate will normally be at least ½ of a percent higher.  The closing costs may be higher as well since non owner occupied purchases usually require more discount points by the mortgage lender.  The remainder of the closing costs should be similar, only the points will be greater.  Since must all home loans are initially evaluated using an automated underwriting model, potential borrowers will find that these models generally require a slighter higher credit history or credit score than the models used for owner occupied properties.

It may be useful to compare mortgage rates and mortgage costs with a mortgage calculator to see just how much the monthly mortgage payments will be as well as the true cost of t a new home loan to purchase a rental property.

Here’s a quick run-down of what every landlord needs to know regarding conditions that are not specific to the mortgage lenders.

Take care of the record keeping aspects of running your business.  Open a bank account for the property and run all bills and rental income through that account.  This will simplify your paperwork come tax time.

Finding good tenants will at times be the most time-consuming part of your business.  It’s tempting to rent to friends, friends of friends, or relatives, and that can become complicated, especially if you are a bit of a soft touch and are the type of person who is willing to help folks out.  This isn’t the place for that.

Think of a tenant as a kind of business partner, someone you can rely on to do their part.  Check their references (speak with their previous landlords), pull their credit report and consider running a background check.  The National Tenant Network and Registry SafeRent sell credit reports from the three major credit bureaus (Experian, Equifax and TransUnion), as well as more in-depth tenant reports including an eviction judgment check, a criminal report, and verification of employment and landlord references.  A modest investment can get you very useful information.

Beyond that, manage your tenants professionally.  Don’t become too personally involved.  Cleaning up messes in a tenant relationship can be costly, time consuming, and maddening.  Be firm but fair with them and they will respect you.  Be tough and strong willed, and demand that they meet their obligations.

The building itself can be trouble too, hopefully not but be prepared.  If you can’t or won’t pay someone else to repair problems or do standard maintenance, you’ll get used to calls from tenants at all hours complaining of pests, broken pipes, clogged bathtubs, exposed electric wires and other common problems.  You need to be handy, or be willing to pay someone who is.  A reliable handyman or woman is your best friend.

You should also be aware of your rights as a landlord.  Normal wear and tear is something you have to pay for, but you shouldn’t have to pay for deliberate or extremely negligent damage. 

You always must be prepared for the worst because even in the best of situations you will have tough days.  Talk to other landlords, or join a local landlords group.  People with experience have a lot of good advice to go along with some horror stories.  Some will recommend that you budget for only ten or eleven months rent to cover eventual late rent or vacancies.  Others will make you aware of federal and local laws that protect the rights of tenants.  Here are some of the common issues that landlords must pay attention to.

Discrimination

Make sure you have legal reasons to reject an applicant, or you risk getting sued for discrimination.  For example, you can’t reject an applicant solely on the basis of his or her race, color, religion, national origin, family status, gender, disability or handicap.  You are allowed to refuse renting to tenants with pets or applicants who have previous bankruptcy filings, insufficient income, or lack positive references from previous landlords.

Steering

Steering is encouraging a potential tenant to take one apartment over another.  Landlords can easily do this even if their intention is innocent.  A landlord who says to a single mother with a teenage daughter, ‘You should take the upstairs unit or the unit in the back’: that’s called steering and it’s illegal.  The landlord may have had the best of intentions but under federal and state law he or she has to allow the tenant to choose the unit they want among those that are available.

Security Deposits

One of the most common cases handled in small claims court is a landlord-tenant dispute over a security deposit.  Have a clear written agreement that spells out how the security deposit works, and make sure that you are following the law.  Some states limit the amount of the deposit you can collect or require you to hold it in a separate account that accrues interest.  Generally, landlords can use the deposit for unpaid rent and repairs that are beyond normal wear and tear, but there may be additional state-specific limitations.

Insurance

Whether you rent out a single-family home to one tenant or an entire building with dozens of apartments, you need separate homeowners insurance for your rental properties.  This type of insurance can be expensive and you should understand the costs before investing.  The more units you rent and the more people there are, the more risk you have, and insurance companies will make you pay for that.

In today’s litigious climate, make sure you have enough liability coverage.  If your tenant’s dog bites your neighbor’s child, they’re most likely to go after the tenant but if there’s some negligence on your part they may go after you.

Professional Management

If your finances allow it, property-management companies can do most of the heavy lifting for you.  They market the property, maintain it, screen tenants, collect rent, pay the bills, prepare financial statements for you and keep up with the fair housing laws.  Management company fees can be up to 10% of the rental income.  If you live far from the rental property), for example, you may need a management company to run your business.  You might also be better off with professional help if you aren’t especially handy or if you find that being a landlord is taking you away from your job or personal life. 

Getting your business off the ground will involve some paperwork other than handling the mortgage lenders requirements.  Some states require that you get a business license for your property in order to rent it out.  First-time landlords should consult with a real estate attorney and a certified public accountant (CPA) before getting started.  A CPA can help you figure out how much rent you should charge in order to make your business profitable, while an attorney can be priceless as you learn the intricacies of the fair housing laws, among other legal issues.