How smart landlords handle rentals

Take these tips from experts on managing your rental property. For example, don't skimp or take shortcuts when screening for tenants.

By Otesa Middleton Miles, Bankrate.com

Owning rental property seems like an easy way to generate extra income. But it's actually not all that easy.

Nevertheless, many people are doing it. According to the National Association of Realtors, 40% of home sales in 2005 were second homes, and 35% of investment-property owners plan to buy another property in the next two years. Most -- 63% -- of the survey respondents said they bought the investment property for the rental income.

One of the best ways to protect that investment is to be scrupulous in searching for good tenants.

Landlords who take shortcuts when screening potential tenants, who skimp on insuring the property or who fail to outline everything in a detailed, written lease, can end up with unpleasant and costly surprises. But there is one shortcut neophyte landlords can take: They can listen to the pros so they won't have to learn lessons the hard way.

Do your own due diligence: A case study

Take, for instance, the tenant who looked so good on paper, with his attractive credit report and handsome deposit check. Too bad the paper he looked good on was bogus.

The tenant had doctored his credit report, giving himself a stellar rating. Then he bounced his hefty $4,000 deposit check. Pasadena, Calif.-based landlord Payman Emamian says not only were he and his real estate partner out of money, but the lying tenant also damaged their two luxury Hollywood town houses. (The guy claimed he'd work in one and live in the other.)

After three months, Emamian successfully evicted the man, but not before he ran up a $20,000 tab for back rent, legal fees and repairs.

Emamian's advice to landlords: "Never accept a credit report that a tenant brings you."

Emamian, who bought his first rental property -- a four-unit building -- in 1998, says he's learned to double-check everything. To help landlords dig into backgrounds, companies such as the Houston-based National Association of Independent Landlords, or NAIL, provide credit reports and scores for $15.95 each. Landlords must first get the applicant's permission, signature and Social Security number, and they must provide their own proof of real estate ownership and photo identification. NAIL provides a host of other background checks as well, including a nationwide criminal search for $12.95 and a national eviction search for $5.95. Many landlords charge prospective tenants an application fee to cover the costs of screening.

Emamian doesn't stop at second-guessing tenants. He applies the same level of scrutiny to information provided by sellers when he's scouting a potential rental property. "Never listen to sellers as to what the expenses are," Emamian says. "You research."

Most buyers know they need to foot the bill for taxes, insurance and some maintenance, but many don't factor in utilities, landscaping, private trash collection or the loss of income when the unit is vacant.

Check references

When screening tenants, Emamian always asks for two landlord references. The past, not the current, landlord is the most important reference, because the present landlord may fudge the truth to get rid of a terrible tenant. If you don't want to do the calling, you can pay an outfit like NAIL. Emamian also asks for a copy of a bank statement.

"I want to make sure they have assets -- how is that check going to clear?" he says.

Jim McDavid has survived 40 years as an owner, manager and seller of rental property by doing very thorough due diligence, and basically by doubting everything prospective tenants tell him. In fact, McDavid says, he does a criminal background check on applicants and asks for photo identification as an extra precaution.

"Everything changed on 9/11, even in real estate," says McDavid, a licensed real estate broker in his home state of South Carolina, as well as in North Carolina and Virginia.

Buy adequate insurance

Protecting yourself goes beyond combing through a tenant's background. McDavid says that too often landlords skimp on a very important item: insurance.

"Tenants create all possible situations you can imagine," he says. McDavid tells of a young woman who rented from a client. The woman's boyfriend slipped her two illegal drugs, ecstasy and methamphetamine, and now her family is suing not only the boyfriend, but the owner of the town house and the lender.

"Protect yourself against the impossible," McDavid says of insuring rental property. "You need as much (coverage) as you have on your automobile driving around." Also, most experts recommend requiring tenants to have renters insurance. The owner's coverage repairs and replaces the building's structure, and many times the appliances, but not the tenant's belongings.

Another form of protection is proof of a property's condition. McDavid suggests having a written, signed document with photos of the property when the tenant moves in.

"Establish a baseline," he says.

Just say 'no' to form leases

What about those leases for sale at office supply stores? They're useless because each state has different landlord and tenant laws. McDavid suggests getting a standard lease for your state from a real estate office or association.

Warren Wheeler, a real estate attorney in Atlanta, agrees.

If you buy a lease-in-a-box, Wheeler says, "for a good bit of time that works -- until there's a problem." Generic leases also don't take into account concerns for different types of dwellings. A high-rise luxury condo will have different stipulations than half of a duplex, a converted row house, a single family home on an acre of land, or a unit above a bakery. Get an attorney to help add provisions particular to your property, Wheeler suggests.

Also, set up house rules, put them in writing and enforce them uniformly. If one tenant feels another tenant gets special treatment, it could be considered discriminatory.

"You can't discriminate racially," Wheeler warns. "There's a federal law against that."

Heed environmental matters

With environmental concerns taking center stage nationwide, landlords, too, must take heed. They need to watch out for lead paint, asbestos, mold and overall indoor air quality, says Robert Gallo, a certified indoor-air-quality manager who works at RTK Environmental Group in Connecticut. "If the structure was made before 1979, chances are it will have lead paint in it, even if it has been painted over," he says.

Landlords need to give tenants the U.S. Environmental Protection Agency booklet, "Protect Your Family from Lead in Your Home." Gallo recommends having the property inspected by a licensed lead-testing company. "Most people are poisoned not from eating paint chips, but from the dust," he says.

Gallo says the do-it-yourself lead-testing kits examine the surface but can't determine if there's lead underneath. His company uses X-ray fluorescence to scan every painted or sealed surface. He charges $400 for a 3,000-square-foot home, which includes a diagrammed report and advice on the cheapest and safest way to correct the problem. To protect against mold, Gallo says, clean up all water immediately.

Consider hiring a property manager

Lisa Vander, founder of Pacific Blue Investments in Solana Beach, Calif., tells her clients not to deal with all of these details. Instead, she urges her clientele to farm out that work to a professional property manager.

"If you're retired, that can be your job," says Vander, who considers herself a real estate wealth developer. "If you already have a job, do not take on managing your own property."

For handling these day-to-day dealings, property managers typically charge a percentage of the rent -- about 4% for very large complexes and up to 10% for single-family homes. The property owner, Vander says, should "learn to manage the equity in the property and buy other property, while managing the manager."

The owner should be thinking about how to increase the rent by improving the property while decreasing expenses, she says.

Other matters to consider

Vander also tells her clients not to go it alone. "Get involved in an apartment association," she says. That way, property owners have others to turn to for advice, forms and referrals. She recommends establishing separate bank accounts for each property so that the finances of each investment can be analyzed separately. It's also important for keeping tax records straight.

Finally, each expert recommends demanding an adequate security deposit from tenants, as a form of protection if all the above fails. And to avoid the headache that Emamian experienced, insist on getting the deposit before the tenant moves in -- and in certified funds: cashier's check, certified check, money order or, of course, cold hard cash.

Go to www.LagretRealEstate.com