In the last post we talked about holding the property for your approved tenant after collecting the security deposit. So, let’s talk about the security deposit in greater detail in this article.
After you approve your tenant’s application, you still have one more thing to do before you can remove your property from the market and that is to collect the security deposit from your approved tenant. It’s possible that your prospective tenant may have applied for multiple properties and just because you approved their application does not mean you have leased your house. They may still be deciding which house they want to live in. Granted that this behavior is rare among qualified tenants as it costs money to apply for a property. Nevertheless, it happens. So always collect the security deposit before you take your property off the market.
So what is a security deposit? A security deposit is money that you collect up front before taking the property off the market and its intent is to “secure performance under the lease”. It is insurance against any non-performance loss that you might incur. Losses could be in the form of lost rent or property damage or violations of other items specified in the lease. It is a deposit which means it is fully refundable. If at the end of the tenancy there was no loss to you as the tenants kept their end of the bargain then you return the security deposit in full.
What a security deposit isn’t: It’s not the first month’s rent or the last month’s rent for that matter. It’s not a savings account for your tenant that bears interest (check the laws in your state/locale). It’s not just additional money that the landlord can keep. It does not create a ceiling for damage losses.
Security deposit should be collected as soon as the application is approved before the property is taken off the market. We have talked about this once before but before you establish a trusted business relationship with your tenant collect all amounts in the form of a cashier’s check or money order. The security deposit is often one month’s rent. Sometimes it could be larger. It may not be convenient to collect this in the form of cash. Avoid collecting security deposits in the form of personal check. If you do so, your policy should be to market the property till the check clears and the money is in your account. Make sure your approved tenants are aware of this policy.
Returning the security deposit: You return the security deposit after deducting for allowed damages. It’s too premature in this series to talk about damages and wear and tear and all the intricacies regarding deducting security deposit. We have to talk about managing the property during the tenancy before we discuss end of lease actions, like security deposit deductions. So I’ll defer that topic till later. What suffices to say here is that you must return the remainder of the security deposit after all allowed deductions within 30 days of property surrender. You can return the deposit by writing a company check and mailing it certified to your tenant’s new address.
What happens if the tenant backs out after you have collected their deposit? This is a rare occurrence when dealing with qualified tenants but it could happen. Their circumstances might have changed. They may have been offered “company accommodation”. Whatever the case is, you now have a property that’s off the market and you have to re-market it. It’s entirely possible you missed the window for the current month and so the property may be vacant for another month. You may have to re-list with your agent. You may incur additional utility and maintenance costs while it is vacant. So, you will most likely have damages if an approved tenant backs off, especially closer to their move in date. So, do you keep their deposit? Most landlords will answer vehemently in the affirmative. However, the Texas Property Code requires landlords to mitigate damages – which means you must fully attempt to lease the property and return the deposit after taking allowed deductions. It’s good to have your company policy address this area. Get it reviewed by your attorney.
Before we conclude this discussion let’s talk briefly about collecting the first month’s rent as well. You may collect the first month’s rent and security deposit together but if there’s a period of time before the move-in date, you may end up collecting these separately. Collect the first month’s rent as a cashier’s check or money order as well. Or, if your policy is to accept personal checks, collect it well in advance so that you have the money in your account before you hand over your property’s keys. You should collect the first month’s rent in full and prorate the second month’s rent based on their move in date. For example, if they are moving in 10 days before month end, still collect a full month’s rent. Prorate the following month’s rent by collecting only 10 days worth. This way before you give them your keys you have at least two full month’s worth of rent in your possession which should give you a lot of protection.
Remember, security deposit is only one aspect of protection. Every step we discuss in these blogs: buying, rehabbing, pricing, marketing and selecting your tenants all contribute towards you running your business successfully. They are all deposits towards your security.