Should You or Shouldn’t You? Is Your Investment Safe if You Lease to People With Bad Credit?
You’ve got a great real estate investment in your rental properties. You want to protect your investment and make sure it does what it’s supposed to do: bring in the cash. However, so many rental applicants are unqualified. Or are they?
Despite the moderate growth path the US economy is on in 2013, it is still not uncommon for many consumers to have spotty credit reports and low credit scores. When the economy took a serious downturn in 2008, for the worst recession since the Great Depression, people who may have had pristine credit in the past suddenly found themselves unable to open so much as a Gap card. Business failures, job losses and the subprime mortgage crises left hundreds of thousands with damaged credit; it will be at least another two years before those blights fall off of those credit reports and, even if they’ve been able to see some recovery, their credit scores will not fare much better.
Guess what else. More people than ever are looking to rent because they lost their homes in the process, as all that damage was being done to their credit report; in fact, that home may very well have been the culprit.
Many real estate investors with rental properties are actually hurting rather than helping their investment get its return by being too stringent; with outrageous application fees and impossibly high credit score expectations, you may be turning away terrific tenants.
Top ten suggestions for security in opening your doors to new tenants, despite their less than stellar credit scores:
- Let people know up front that you are open to any credit situation. Regardless of how much we all understand what’s gone down in the last 5 years, there is still a stigma attached to poor credit; many will feel embarrassed and refuse to set themselves up for rejection, assuming that you, like many landlords, will deny their application once their credit situation is revealed. Letting them know you’re open up front takes a lot of power out of the situation and may encourage potential renters to approach you when they might not do so otherwise.
- Do ask for a rental application but don’t charge an arm and a leg for it. Do you really need to charge $70 to process a rental application? $30 – $35 should be plenty to cover the cost of your time and processing fees. There are plenty of websites where landlords can run credit reports for as little as $10.
- Do run a credit report. Don’t just look at the FICO score. Credit scores can be deceiving; some people have no score at all because they don’t use credit or haven’t in the past. Others are rebuilding credit after a hit and scores take a while to improve.
- Do give full consideration to everything you see on the applicants report and ask for a letter of explanation. If you see that the damage is contained to a certain time, it is likely that it was caused by some extenuating circumstance, a job loss or housing foreclosure; you may note that their most recent history shows an effort to rebuild. What kind of damage is it? Credit cards and loans are one thing, but failure to pay utility bills or rent may be an indicator that the applicant is not a good risk.
- Ask for, and check, personal and professional references, as well as rental history and landlord references for the last two years.
- Run a social media check; you can learn a great deal about someone by looking at their Facebook page.
- Some suggest doing a home check on their current residence; this can be effective but may be time consuming as well as cost prohibitive. Additionally, others say to take a look at the applicant’s car; is it clean and well cared for? That could tell you a lot about how they’ll keep their home.
- Ask for an additional security deposit, but be sure to check your State’s regulations before you do this. Some states limit the amount you are legally allowed to ask for. Another option is to ask for slightly higher rent amount.
- Check their income. If they don’t have paystubs because they are self employed, last year’s tax return or the last 4 to 6 months of bank statements should give you a pretty clear picture of how they’re doing financially and whether or not they can afford to pay the rent.
- Accept a co-signer on the rental application but do limit the liability of the co-signer to 2 months rent. This should be sufficient since any security deposit would be forfeited anyway if the tenant should default, and most states do require by law that the landlord make every effort to fill vacancies as soon as possible so as not to require the lessee to pay the full year out.
Ultimately, trust your gut and look at the person, not their FICO Score. You may end up with an awesome tenant that you might have missed out on or passed up otherwise.