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Some military families intentionally plan to become landlords, while others may be facing an “accidental landlord” dilemma as a result of an unexpected or short-notice PCS.
Real estate can be one of the best ways for service members and their families to build wealth. However, transitioning a primary residence into a rental property will require a paradigm shift to understand the new responsibilities and requirements involved in becoming a landlord.
1. Preparing for Life as a Landlord
Once someone converts their home into an income-producing rental, they’ve effectively become a small business owner. They are providing goods and services (shelter and maintenance), which a customer (tenant) then pays them for. As a business owner, there will also be start-up considerations, such as licensing requirements and other new regulatory expenses, so it’s important to become familiar with governing laws and local regulations.
Is Being a Landlord Affordable?
A new landlord has the responsibility of maintaining two residences: the owner’s primary residence and their rental property. There are some costs and risks involved in overseeing more than one property.
Since service members will only receive BAH for their current duty location, this may be more or substantially less than what they had received at their prior location, where their rental home will be. Carefully review the family finances to determine the realities and risks of operating a rental property. There will now be two households to maintain, and there are expenses associated with both. Keep in mind the conundrum of becoming a landlord vs. a property manager. There are additional costs involved with hiring a professional property manager.
Market Rent Rates vs. Mortgage
Like any other business owner, expenses cannot exceed profits for long before there’s a breaking point. If the current mortgage exceeds market rents, there will be two choices:
1. Advertise the rental above-market. This may mean a significant lag time in finding and placing a tenant willing to pay above-market rent.
2. Advertise the rental at market rate. This may be less than the mortgage on the rental. The landlord will have to absorb the difference with this option.
A small upfront investment might be worth it in the long run, as your rental home could grow in value and build equity. Still, it’s wise to be aware that managing a rental property comes with its own expenses.
Do You Want the Responsibility of Being a Landlord?
Becoming a landlord can be a fantastic way to build wealth through real estate. However, it’s certainly not without risk and emotional toll. Can you manage the rental home like a business? Can you separate that your rental home is now your tenant’s home, and not your primary residence?
Consider how to manage the rental property, and be prepared for worst-case scenarios such as evictions, extreme tenant damages, and paying out of pocket for a month or two of mortgage payments between tenants.
Will you become your own property manager or hire one? Taking the time to evaluate the family budget, desires, and risk tolerance will help guide a decision on whether becoming a landlord is the right fit.
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What Is the End Goal for This Property?
Consider the following questions when deciding to become a landlord:
- What is a likely end goal for you and the property?
- Is the property in a location that you’re strongly considering as a retirement destination? If so, it may make sense to keep it until retirement.
- Will you be returning to the area where the property is?
- How does the rental fit into your overall investment strategy?
- What is your current equity position in the home, and how is the selling market?
- Would you prefer cash in hand now for other investments?
Each family’s situation and goals are different, but truthfully assessing personal intentions early can set the tone for having a successful run as a landlord.
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2. Start-Up Considerations as a Landlord
Determine the following details when taking the plunge to become a landlord:
Is a Business License or State, County, or City Rental License Needed?
Landlord/tenant law can vary significantly among states. Sometimes, county or city governments may also enact legislation regulating the use of rental homes in a given jurisdiction. Some states, such as Alaska, do not require a rental license. Instead, they require a business license to collect rental income. Search for rental license requirements at the state, county, and city levels where the rental home will be. Most rental or business licenses are renewed annually, with a fee set by the government.
Tip: In many states, landlords cannot file for evictions or take adverse tenant action (if needed), unless a valid rental license exists for the property. Landlords may also be fined if found in violation of applicable law, particularly if operating an unlicensed rental.
Mandatory Lead-Based Paint Notifications and Certificate (Before 1978 Construction)
If a home was built before 1978, there may be a risk of exposure to lead-based paint hazards. The Residential Lead-Based Paint Hazard Reduction Act states that,
“Before ratification of a contract for housing sale, or lease, sellers and landlords must:
- Provide the EPA-approved pamphlet, ‘Protect Your Family From Lead In Your Home’
- Disclose any known information regarding lead-based paint
- Provide any records concerning lead-based paint available, and
- Include an attachment to the rental contract, or lease, that includes a Lead Warning Statement, and that the landlord has complied with notification requirements."
Some states may also require an inspection to test for lead-based paint hazards in the home as a requirement for issuing a rental license. Testing, if required, is often monitored and enforced by the state’s Department of Environment or Department of Health bureaus.
Open Bank Accounts to Accept Rent and Pay Expenses
Managing finances for a rental becomes infinitely more manageable with dedicated financial accounts. Additionally, if you elect to set up a business structure to hold the rental property, such as an LLC, you must separate business finances from personal accounts. Failure to do so creates an undesirable situation called "co-mingling funds," when personal and business funds are mixed in the same accounts.
- Checking account: Dedicated solely to your rental property to both receive income and pay expenses through. A separate checking account also allows for tracking rental income and expenses easily.
- Savings account: A dedicated savings account for your rental property is useful for two reasons. One, if you self-manage the property, most state landlord/tenant laws require that tenant security deposits be maintained in a separate and dedicated savings account. Some states also mandate that landlords track and return interest earned from the tenant's security deposit. As a practical operation, this also ensures that the landlord does not accidentally spend the deposit.
What to Know About Home Insurance as a Landlord
A new landlord will need to change their insurance from a homeowners policy to a fire and hazard rental policy. It’s critical to notify insurance companies of the change to the property’s usage into a rental property, as coverages and premiums will need to be adjusted.
Some states also mandate specific dollar amounts in liability coverages, particularly for medical payments. Notifying the insurer will ensure the landlord has the correct protection in place in the event they need to make a claim.
Additionally, it may be worthwhile to consider an umbrella policy as a hedge against further liability and risk.
Learn more about the differences between renters insurance and landlord insurance and what’s covered in each.
3. HOA Matters
If the home is currently subject to a Homeowners Association (HOA), you’ll need to determine if the governing declarations of Covenants, Conditions, and Restrictions (more commonly known as CC&Rs) will allow the property to be converted from an owner-occupied residence into a rental.
Some HOAs will allow rentals only if prior permission is granted for tenancy, while other HOAs forbid rentals altogether. HOAs can have broad enforcement powers written into the CC&Rs, including legal, binding restrictions on homeowners to operate a rental property in a given neighborhood.
Can an HOA Legally Deny Converting a Home into a Rental Property?
If there is a rental exclusion clause in the CC&Rs that the owner signed upon taking possession of the home, then yes, an HOA has the authority to enforce the rental exclusion and deny the rental.
Enforcement actions may range from fines or legal action (to include the HOA's legal fees incurred), to placing a lien on the property. In the worst-case scenario, if state law allows, an HOA may have the legal right to seek a judgment of foreclosure for a continuous non-conforming use.
Tip: If it is discovered that the Homeowner’s Association CC&Rs forbids converting a home into a rental, ask for a private meeting with the senior council members and request a waiver. For a military family, this may well be a financial hardship waiver, in that the family has received PCS orders and would take a financial loss in selling the home. A military family can offer solutions on how they will ensure their home will continue to meet the standards set by the HOA. This can include paying for lawn care and grounds-keeping on the tenant’s behalf, or they can offer the HOA Council a chance to approve prospective tenants.
Ensure HOA Standards Are Maintained
For many landlords, it may be worthwhile to include routine services such as landscaping and groundskeeping in the rent. Not only does it ensure the property is being maintained to HOA standards, but having a dedicated contractor may help sway an otherwise hesitant HOA board that the rental property will be maintained.
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4. Pet Issues
Should You Allow Pets in Your Rental?
“Do I have to accept pets?” is one of the most commonly asked questions for new landlords. A landlord can advertise as “no-pets,” but about 70 percent of renters own some kind of pet. If a landlord refuses pet, it narrows the pool of prospective tenants. As an alternative to not allowing pets, landlords can charge a pet deposit or pet rent.
Service Animals and Emotional Support Animals (ESAs)
According to the Fair Housing Act and the Americans with Disabilities Act, a landlord may not refuse a certified service animal. An emotional support animal (ESA) is different from a service animal. Service animals are defined as animals that do work or provide a service, whereas an ESA can provide a service or comfort. ESAs can also be protected by the FHA.
If a tenant requests this accommodation, landlords may ask for the animal’s official documentation from a doctor or therapist. However, the homeowner cannot ask the applicant what their “specific” disability or need is for requiring an ESA.
Additionally, the FHA prohibits landlords from charging pet deposits for service animals and ESAs. However, tenants can be held responsible for any damages their pets cause, including damages caused by service animals and ESAs.
Learn more: Landlords, Should You Allow Pets in Your Rental Property?
5. Navigating Legalities
For the new landlord, there are legalities that must be adhered to in order to stay compliant.
How to Find Renters: Tenant Screening, Advertising, and the Federal Fair Housing Act
One of the most important baselines as a landlord is how to find renters through a thorough screening process. There are a number of screening programs available. RentRisk is one of the easiest and most secure tenant screening programs available, and it provides landlords with the information they’ll need to vet applicants.
While advertising and screening applicants, realize that a landlord must adhere to the Federal Fair Housing Act (FHA) in order to stay compliant. The FHA is designed to avoid discriminatory practices and behavior related to housing because of race, color, religion, sex, disability, familial status, or national origin.
Invest in a State-Vetted Rental Lease
Landlord/tenant law can vary significantly by state. Laws can stipulate how much money can be held as a security deposit (one month or two months), required tenant notifications and grace periods to pay rent, and the state’s timeline for an eviction notification and process. Property managers will have a legally vetted lease to use. If you’re self-managing the rental property, invest in a vetted, state-specific lease, such as the one from MBO’s partner, US Legal Forms.
Late Rent and Evictions
A strong lease will include the amount of rent due, required security deposits, how payment will be made, any state-specific payment grace periods, and what the penalties are for late payment. Note that some states enact limits on how much may be charged for late fees.
Additional clauses to include are a pet policy, subleasing (specifying whether it’s allowed or prohibited), a military clause, smoking policies, requests for maintenance, tenant obligations in maintaining the property, and the process for modification requests to interior and exterior premises.
Evictions are most commonly issued for the following reasons:
- Non-payment of rent.
- Lease violations, such as refusing to keep and maintain utilities in the tenant’s name, smoking, and damages to the premises.
- Expiration of the lease, and tenants refusing to vacate.
Each state has its own state-specific guidance and procedures, and seeking proper legal counsel to process an eviction is recommended. Some Judge Advocate General offices can provide initial guidance on how to begin the eviction process; in other areas, the landlord will need to consult a private attorney.
Watch Out for “Self-Help” Evictions
Evictions are a formal, legal process, and the lead time for notifications and required court processing may take days, weeks, or even months. A landlord may not attempt removal of the tenant themselves through non-court means; they must follow the court’s process as dictated in state law.
Changing the locks, removing the tenant’s entry doors or windows, shutting off utilities, or removing a tenant’s possessions are all examples of a “self-help” eviction to harass a tenant into leaving, and landlords will face harsh penalties and fines for such behavior.
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Required Repairs and Notice to Enter
Landlords are required to maintain minimum property standards to ensure the rental is habitable, which includes access to running water, a method for sewage and trash removal, heat (and in some states, air-conditioning), electricity, a working bathroom and kitchen facilities, and secure premises (such as a locking front door and windows).
Entering for emergency repairs to maintain habitability: Landlords should make all reasonable attempts to notify the tenant, but may enter the home for the sole purpose of emergency repairs needed to maintain the safety and habitability of the home. Inform the tenant that the home was entered and what emergency repairs were needed.
Entering for routine repairs: Tenant must be given a minimum of 24-hours’ notice for routine repairs.
Note: Most leases require the tenant to pay for utilities, but a landlord must maintain working utilities at the property at all times. If a tenant does not pay in accordance with the lease terms, this would be a lease violation, and the landlord would be entitled to pursue eviction.
Entering for Emergency Repairs to Maintain Habitability
Landlords should make all reasonable attempts to notify the tenant before entering the rental unit or home, but may enter the home for the sole purpose of emergency repairs needed to maintain the safety and habitability of the house. The landlord must inform the tenant that they entered the home and what emergency repairs were required.
The landlord must give the tenant at least 24 hours' notice before entering for routine repairs.
6. Will You Self-Manage or Hire a Property Manager?
Determining how you will manage your rental property as a new landlord can involve several factors.
Long-Distance Property Management
Service members making a military PCS move may need a property manager to maintain their rental. Understanding landlord vs. property manager roles can help you decide whether hiring someone is worth the investment, as the quality of property managers varies, and there are both benefits and drawbacks to using them.
A great property manager saves time, offers various services, and handles bookkeeping expertly. While a property manager lightens the responsibility, it doesn’t always mean having a hassle-free rental. However, the property owner should do their due diligence and travel back to the property for periodic inspections.
Learn more: What Long-Distance Landlords Need to Know.
Self-Managing a Rental Home
It’s certainly possible to successfully self-manage a rental property, but it will require more of a time investment on the landlord's part. This will include finding renters, coordinating any necessary repairs, fielding tenant inquiries, and creating a system to track income and expenses.
7. Planning for Property Maintenance and Inspections
Planning for routine inspections is one of the best ways to protect the investment and learn how to manage rental property effectively. Landlords can catch problems sooner, and they can learn how a tenant or property manager maintains the premises.
Routine Inspections Are Worth It
An annual inspection provides several key benefits, including the ability to catch and address problems early, before they worsen. It also allows a firsthand assessment of whether the property management team is maintaining the property according to the standards outlined in the contract. While conversations, maintenance notes, and even photos of the unit and grounds are valuable, nothing can replace a hands-on, physical inspection of both the property and its surrounding area.
Budgeting both the travel time and the expense of traveling to the property for an inspection can be difficult, but it is well worth it. Keep detailed records of your travel expenses because much of it can be included as Operating Expenses at tax time.
Remember, Landlords Need to Issue a 24-Hour Notice to Enter the Rental
Tenants have a reasonable expectation of privacy. Routine inspections and periodic maintenance require that the tenant be given at least a 24-hour notice to enter. Many states require this notification to be provided in writing. Take the time to plan routine inspections, but also ensure that proper notice is given to your tenants.
Operating Expenses vs. Capital Repairs
Ordinary repairs are considered operating expenses (such as utilities, lawn care, advertising, and HOA dues) and are fully deducted as expenses in the year they occurred.
A repair that extends the life of the property, such as a new fence, roof, full interior paint, or storm windows, would be considered Capital Repairs, or CapEx. Capital Repairs have a depreciation schedule from the IRS, meaning the expense is deducted over a number of years. Accurate record-keeping is key for a CPA to assist in correctly classifying expenses at tax time.
Learn more about managing your rental property’s finances.
Life as a landlord can be a lucrative and rewarding experience. To keep on the right track, be sure to download our free ebook for military landlords, and don’t miss these other helpful resource articles for landlords and property management blog posts, videos, and more.
By Kristi Adams
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