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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 your family to build wealth, but transitioning your primary residence into a rental property will require a paradigm shift to evaluate and understand the new responsibilities and requirements involved in becoming a landlord.
1) Preparing for Life as a Landlord
Although you might not initially realize it, once you convert your home into an income-producing rental, you have effectively become a small business owner. You are providing goods and services (shelter and maintenance), which a customer (tenant) then pays you for. As a business owner, you will also have start-up considerations, such as licensing requirements and other new regulatory expenses, and you will need to become familiar with governing laws and local regulations.
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Can you afford to be a landlord?
As a new landlord, you will now have the responsibility to maintain two residences; one that you actively live in as your own primary residence and your rental. This is not without some cost and risk.
Remember that you will only receive BAH for your current duty location; this may be more or substantially less than what you had received at your prior location where your rental home might be. Carefully review your family finances to determine the realities and risk of operating a rental property as you will now have two households to maintain and the expenses associated with both.
Market Rent Rates vs. Mortgage
Like any other business owner, expenses cannot exceed profits for long before there is a breaking point. If your current mortgage exceeds market rents, you will have two choices
1) Advertise your rental above-market, which may mean a significant lag time in finding and placing a tenant who is willing to pay above market rent, or
2) Advertise your rental at market rate, which may be less than your mortgage – meaning you, as a landlord, will have to absorb the difference.
Coming out of pocket a little may be worth it in the long run, as the rental home should continue to appreciate and build equity, but take the time to consider the real possibility that becoming a landlord may also come with some financial costs.
Do you want the responsibility?
Becoming a landlord can be a fantastic way to build wealth through real estate. However, it is certainly not without risk and emotional toll. Can you manage your rental home like a business? Can you separate that your rental home is now your tenant’s home, and not your primary residence?
How will you manage the property? Are you prepared to weather worst-case scenarios, such as evictions, extreme tenant damages, or simply be able to sustain a month or two of mortgage payments between tenants if necessary?
Will you become your own property manager or hire one? Taking the time to evaluate your family’s budget, desires, and tolerance for risk will help you make the decision if becoming a landlord is the right fit.
What is the end goal for you and your property?
If you’re on the fence about becoming a landlord, consider the following questions in your decision-making.
- Quite simply, what is a likely end goal for you and the property?
- Is the property in a location that you are strongly considering as a retirement destination? If so, it may make sense to keep it until retirement.
- Will you likely be returning to the area, such as a home near Washington, D.C.?
- 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 scenario and goals are different, but truthfully assessing your intentions early can set the tone for having a successful run as a landlord.
2) Start-Up Considerations
In taking the plunge to become a landlord, you will need to determine the following considerations.
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Is a State, County, or City Rental License Needed, or a Business License?
Landlord/Tenant law can vary significantly amongst states, and at times, 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, but instead require a Business License to collect rental income. Search for rental license requirements at the state, county, and city levels where your rental home will be. Most rental or business licenses are renewed on an annual basis, 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 (prior to 1978 construction)
If your 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 your rental becomes infinitely more manageable with dedicated financial accounts. Additionally, if you elect to set up a business structure to hold your rental property, such as an LLC, you must separate business finances from your 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 you to easily track rental income and expenses.
- Savings account: A dedicated savings account for your rental property is useful for two reasons. One, if you self-manage your property, most state landlord/tenant laws require that tenant security deposits are maintained in a separate and dedicated savings account. Some states also mandate that landlords track and return any interest earned from the tenant's security deposit. As a practical operation, this also ensures you do not accidentally spend the deposit.
What to Know About Home Insurance as a Landlord
Change your insurance from a homeowners policy to a fire and hazard rental policy, and also consider umbrella insurance. It’s critical to notify your insurance company of the change in your property’s usage into a rental property, as coverages and premiums will need to be adjusted. Your homeowner’s policy will need to be replaced with a fire and hazard rental policy.
Some states also mandate specific dollar amounts in liability coverages, particularly for medical payments. Notifying your insurer will ensure you have the correct protection in place in the event you need to make a claim.
Additionally, it may be worthwhile to consider an umbrella policy as a hedge against further liability and risk.
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3) HOA Matters
If your 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 you to convert your owner-occupied residence into a rental.
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Some HOAs will allow rentals, only if prior permission is granted to tenancy, while other HOAs forbid rentals altogether. HOAs can have broad enforcement powers written into the CC&Rs, to include legal, binding restrictions on homeowners to operate a rental property in a given neighborhood.
Can an HOA legally deny converting my home into a rental property?
If there is a rental exclusion clause in the CC&Rs that you 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, legal action (to include the HOAs 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 you have discovered your Homeowner’s Association CC&Rs do in fact forbid converting your 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 your family has received PCS orders and would take a financial loss in selling the home. Offer solutions in how you will ensure your home will continue to meet the standards set by the HOA, such as paying for lawn care and grounds-keeping on the tenant’s behalf or offering the HOA Council a chance to approve prospective tenants.
Make sure 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 do you ensure the property is being maintained to HOA standards, having a dedicated contractor may help sway an otherwise hesitant HOA board that your rental property will be maintained to expected standards.
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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. You can advertise as “no-pets,” but realize 70 percent of renters do own some kind of pet, so you will be significantly narrowing your rental pool if you refuse pets.
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Service Animals and Emotional Support Animals (ESAs)
Per 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 somewhat different (service animals are defined as animals that do work or provide a service, whereas an ESA can provide a service or comfort), but ESAs can also be protected by the FHA.
If a tenant asks for this accommodation, you’re entitled to ask for the animal’s official documentation from a doctor or therapist, although you 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. Tenants can, however, be held responsible for any damages their pets cause, to include 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 a number of legalities that you’ll need to adhere to in order to stay compliant.
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Tenant Screening, Advertising, and the Federal Fair Housing Act
One of the most important baselines as a landlord will be a thorough screening process for any potential tenants. There are a number of screening programs available, and SmartMove is one of the easiest and most secure programs available--providing you with the information you need to vet applicants.
As you advertise and screen applicants, realize that you 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 due to 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, notably in how much 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. If you hire a property manager, they will have a legally vetted lease to use; if you self-manage, invest in a vetted, state-specific lease, such as the one from our partner, US Legal Forms.
Late Rent and Evictions
A strong lease will include: the amount of rent due, required security deposits, how payment is made, any state-specific payment grace periods, and what the penalties are for late payment (some states enact limits on how much may be charged for late fees).
Additional clauses to include are a pet policy, subleasing (whether it is 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:
- Non-payment of rent
- Lease violations, such as refusing to keep and maintain utilities in the tenant’s name, per the lease, smoking, damages to the premises, or
- Expiration of lease, and tenants refusing to vacate.
All states have their own state-specific guidance and procedures, and seeking proper legal counsel to process an eviction is highly recommended. Some Judge Advocate General offices can provide initial guidance on how to begin the eviction process, in other areas, you’ll need to engage 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.
Required Repairs and Notice to Enter
Landlords are required to maintain minimum property standards to ensure the habitability of the premises, 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 a secure premises (such as a locking front door, and windows).
Note: most leases require billing conversion to 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 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, 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.
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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.
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Long-Distance Property Management
If you’ll be making a PCS move quite some distance from the home, having a dedicated property manager could make the difference in successfully maintaining the rental or not. There are pros/cons of property managers, and they are not all created equal.
A good property manager should be a time-saver, and provide a number of services to include stellar bookkeeping, but hiring a property manager doesn’t necessarily mean worry-free. Do your due diligence, and travel back to the property for periodic inspections.
Learn more: What Long-Distance Landlords Need to Know
Self-Managing Your 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, as you’ll be the one responsible for coordinating any necessary repairs, fielding tenant inquiries, and creating a system to track your income and expenses.
7) Planning for Property Maintenance and Inspections
Planning for routine inspections is one of the best things you can do to protect your investment. Not only will you catch problems sooner, you’ll also learn how a tenant, or property manager, is maintaining the premises.
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Routine Inspections Are Worth It
An annual inspection offers several benefits, to include catching problems early before they become major and an evaluation of how your tenant is maintaining the property (or isn’t). They also offer a chance for a timely correction, before more significant problems occur.
A yearly walkthrough also offers a look into how your property management team is maintaining the property, in accordance with your business contract. Lastly, while conversations, maintenance notes, or even photos of the grounds and unit are vital, there is no substitution for a hands-on, physical inspection of both the property grounds and surrounding area.
Budgeting both the travel time and expense of traveling to the property for an inspection can be a hassle, but it is well worth it. Keep detailed records of your travel expenses, as much of it can be included as Operating Expenses at tax time.
Remember, You’ll Need to Issue a 24-Hour Notice to Enter
Tenants do 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
As a new landlord, it may be confusing to learn that not all expenses are created equal. Ordinary repairs are considered operating expenses (such as utilities, lawn care, advertising, 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 per the IRS, meaning the expense is deducted over a number of years, per the given IRS Depreciation Schedule. Accurate record-keeping is key for a CPA to assist you in properly 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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