7 Types of Tenants That Are Harder to Insure (& What You Can Do About It)
Insurance is all about mitigating risk. I’m hoping to make some of the concepts around insurance less intimidating in my first series of articles about insurance for real estate investors here on the BiggerPockets platform. If you have feedback for this article—or insurance information you’d love to see explained in plain English—please let me know about it in the comments!
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Anyway, back to the subject at hand.
The “big box” companies especially will run screaming from the seven types of tenants described below. Read on to learn more about the seven types of tenants that are most difficult to adequately insure and how to handle these situations, whether you decide to attempt to screen out these types of tenants or proceed with the deal knowing you have these tenants in your rental home. Whatever you choose, I have practical advice and tips for you. Let’s dive in.
7 Kinds of Tenants That Major Insurance Carriers Don’t Usually Cover
These are the types of tenants that consider riskier from the insurance company’s point of view. We have also included some insurance solutions you can employ if you have these types of tenants, or plan to invest in a property that will house such tenants or operate as the types of business discussed below.
1. Section 8/Rental Assistance Tenants
Only a handful of carriers in the country will insure Section 8 tenants. Of the thousands of companies nationwide, that isn’t very many. If you or your property manager start taking in Section 8 tenants, you must make your insurance company aware of this situation. Failure to do so is misrepresentation. The best thing you can do if you must have Section 8 tenants is speak to agents of the companies offering this specialty coverage.
Tenants receiving rental assistance from a variety of other programs may be treated the same as Section 8 tenants by insurance carriers. Underwriting guidelines will determine whether a carrier will treat tenants receiving subsidized housing differently. Some may insure if these tenants constitute less than 15% of the occupants of a multi-unit building.
2. Individuals Operating an In-Home Day Care
State law will outline when someone is considered to be operating a daycare. The lines can get blurry for those who care for other people’s children for any reason. Babysitting one or two kids several times weekly is generally OK. But state and local laws outline how many children can be watched and for how long before someone is considered to be running a business.
A tenant may come forward and state that they are operating a licensed daycare in compliance with relevant law. If you’re a landlord with tenants running a day care without your permission, even if it as unlicensed, talk to the tenant first. We have some tips on how to do so below. You can check them out under Heading #7 (Assisted Living), which gives an example of how you can have this conversation with your tenant without causing yourself more problems.
3. College Students
There are different levels of coverage for types of housing. Let’s take a look at the basics. If there’s more interest in this topic, I’m happy to write more in the future about the levels of student housing and what investors can do to keep their premiums and other insurance costs as low as possible.
Underwriters look to see how close your property is to a university campus, whether the property owner is marketing explicitly to college students, or whether all of the leasing dates fall along the same timeframe as school years. Those items are dead giveaways that a property may be student housing. Student rentals have higher costs than normal market rentals, but are a lower “level” of coverage than, say, our next category.
And again, don’t think you can get sneaky on this issue: If you’re busted marketing to college students (remember, the insurance folks can see everything your prospective tenants can!), expect to pay the price for this deceit. If you genuinely just own property in one of these areas but aren’t marketing directly to students, you may be able to get a normal market rental (i.e. cheaper) rate for your policy.
Sorority and Fraternity Houses
Fraternity and sorority houses especially may be treated differently from an insurance perspective. In fact, they are an entirely separate specialty class. Many carriers who allow student rentals will still exclude these types of houses. This isn’t that crazy, considering the type of debauchery going on in these homes daily. Between unrestrained binge drinking, tons of people in and out of the home, and the inevitable property damage (which can usually be blamed on aforementioned binge drinking), you can’t really fault the insurance company for charging more. Liability costs for injuries, even those that are clearly the tenant’s drunken fault, can be massive. Plus, there are plenty of other scandalous lawsuits waiting to happen that don’t bear repeating in polite company.
Again, if you must invest in a property involving a sorority or fraternity house because your heart compels you to or you have some compelling financial reason, be sure to consider the actual cost of what the specialty insurance will be.
These students are considered more responsible and may be accepted with the same type of coverage you would use for a normal market rental. Because graduate students may or may not require a specialized policy, you will have to check with your carrier to know for sure.
Market rent apartments that simply allow students to live there are another gray area. If the property is not explicitly student housing but still has student renters, most policies will treat this situation as a typical market rental.
4. Individuals Running Assisted Living Businesses
If you or your tenant are running an assisted living business, keep in mind that facilities for adults may require specialized coverage. Some of the factors that will influence the cost of this coverage include:
- Types of individuals living in the home. The elderly may be treated differently from individuals with physical or mental disabilities.
- Hours of operation and degree of care. Round-the-clock care facilities may be costlier to insure than daylight or night-time only facilities. The same goes for high levels of care versus lower levels of care.
- Licensing status. There are four types of assisted living licenses. Knowing which kind the business operating on your property needs is essential for insuring the property properly. The types of assisted licensing include a Standard License, Extended Congregate Care License, Limited Nursing Service, and Limited Mental Health. Ensure the facility has the proper licensing. If your tenant is the one running the business, ask him or her about licensing.
If your tenant is running the assisted living business, you can have him or her pay for the cost of insurance coverage. This will offset your costs, and if the tenant is likely to remain for the long-haul, may be a great way to guarantee the continued passive income we are all after.
5. Owners of Restricted Breeds of Dogs
Most major insurance carriers have dog restrictions. How strict or lax they will be depends on your provider. Always check this information prior to permitting pets on the property. If you don’t know where to look, ask your agent. We’re here to help you! Keep in mind that even service animals may be restricted, completely legally.
You may choose to have a tenant with a dog even if your insurance company has restrictions. However, check what those restrictions are to know if the animal will be covered. If their breed isn’t restricted, well, doggo-party on! If you choose to have tenants with dogs that are in fact restricted, you may. But if that dog bites somebody, your insurance carrier most likely won’t be covering any claims. Some plaintiffs may even go to the effort to sue you civilly.
6. Short-Term Tenants
Week-to-week rentals are more difficult to ensure than most. Insurance carriers that do home and auto have made adjustments to cover insurance for vacation rentals. This is a fairly recent change that reflects the fact that these markets are more established.
Related: Which Types of Insurance Coverage Should I Have on My First Rental Property?
There are two major companies that specialize in properties purchased explicitly for Airbnb or other vacation rental formats. This option may be preferable for an investor who purchases a property that will be a vacation rental most of the time.
7. Transitional Living and Halfway Houses
Carriers view the types of tenants in these homes as very risky, which they’re largely not even incorrect about. However, there are many types of transitional living homes: housing for those who have experienced domestic violence, individuals with credit or financial constraints who are working towards more permanent housing, and the growing sober living home and addiction recovery support industry. The point is, transitional living helps a variety of people in need—not just felons and rapists.
Is this a bias problem? Maybe. A tightly controlled sober living home that is run-well can actually be the cleanest house on the block. Reputable facilities routinely drug test clients and conduct breathalyzer tests on clients returning from weekend outings or at random. So while the reality may be that a recovery home is the only house full of 20-somethings on the block that isn’t partying on the weekends, drug use carries unfair stigma but also a degree of risk that insurance companies justifiably may not wish to take on. Halfway house tenants tend to have poor credit and often criminal backgrounds that make other types of housing unfeasible. These types of homes are ultimately very good for society. Some business models are more lucrative than others, but be sure to include the actual cost of your insurance quote for greater accuracy while you examine your deals.
Fortunately, many of the pointers for the “assisted living” category can also be applied here. Talk to your tenant about their situation, whatever it is. Let’s imagine for the sake of simplicity you have a tenant, Betty, with many children, who routinely babysits her friend’s children as well. It comes to your attention that Betty may be meeting your state’s definition of “running a daycare.” Speaking to Betty about this situation is a great first step. She may not know she is breaking the law or may be able to provide documentation that the children seen on the property are actually family members. She may be willing to stop her operation once she knows her housing is on the line.
If she continues to break the law or implies she might, ask her to stop. Make it clear what she’s standing to lose. You may be able to come up with a different arrangement where Betty assists with handling the policy coverage change/extra expense, particularly if she’s running her business by-the-book and not under-the-table.
If you encounter a situation like this and are unsure of what to do, chat with a friendly real estate attorney. We’ve got tons of great attorneys here on BiggerPockets who are all too happy to share their thoughts, but ideally you’ll want to retain your own for matters such as entity formation and asset protection. Consults with great attorneys are often cheaper than you’d think. Less experienced attorneys may offer free consults, but your time will be very limited. If you have an hour or two worth of questions, write them down and get connected with a legal professional with experience dealing with real estate investors.
How Not to Deal With Difficult-to-Insure Tenants
We investors are always looking for workarounds when we encounter obstacles. While creative problem-solving is no doubt a great skill to develop, there are two common mistakes people make once they have selected the types of tenants described above but don’t wish to pay the price.
Mistake #1: Lie About the situation to the insurance company.
Not mentioning it is a bad approach—that’s considered misrepresentation. If you don’t say you have any Section 8 tenants, for instance, but you do and you know about it, the insurance carrier can deny your claim.
You may be in a better situation if, say, you’ve owned a property for 10 years and chose to price it affordably. Originally, you had no Section 8 tenants, but your property manager has since allowed some on the lease. You may be able to negotiate in that situation, but if you knew or should have known about the tenants, lying is the worst thing you can do regarding any claim.
Related: Landlords: These Are the 4 Types of Insurance You May Need
Mistake #2: Deny applications in a discriminatory manner.
This is where it is handy to have a legal professional to bounce your concerns off of. This doesn’t apply to all of the categories above. However, those affecting vulnerable populations usually do. Here are some things you can’t do on your application if you want to avoid discrimination accusations that lead to litigation nightmares another BiggerPockets poster has written about here in the past. Check out that article if you really want to know all of the gory details—and how dark it can get.
- Stating in the application that you won’t take specific kinds of people. This is begging for a lawsuit. You can state you won’t tolerate a behavior, but never a person for who they are. So you can say that you won’t permit drug use on your property, but you do not want to say, “I won’t rent to drug addicts or people with a history of drug addiction.” Why not? Because addicted and alcoholic tenants are a protected class under the Fair Housing Act. It’s not worth the headache of even a nuisance lawsuit. Educating yourself on the Fair Housing Act’s protected classes can help you determine what is legally considered discrimination.
- Asking irrelevant or unfair questions that imply discrimination. Asking questions about a person’s sexuality is a good example of this. Some landlords have prejudices or personal biases and try to head these off with specific questions. If those questions overlap with protected classes, you’re leaving yourself vulnerable to a situation that may very well land you in court regardless of which insurance policy you use. The reality is, you can choose whomever you want to live in your property. There are other ways to vet for behaviors that make individuals risky to rent to. Follow the tips below to avoid discrimination—or more accurately, the threat of a brutal discrimination lawsuit.
Not all protected classes are obvious, which is why I recommend getting to know more about them. For example, you also can’t deny someone for their family status. “Family status” may include factors like number of children, blended or unconventional families, older family members choosing to live together, and other situations which you may not like, but cannot use as grounds for denying on an application. If you know you don’t want to take a certain type of tenant on, look at what about that tenant sketches you out. Is this a person who is likely to have a poor rental history or poor credit? It’s perfectly legal to deny an application on those grounds.
Behaviors and non-protected classes may be items to address in your lease agreement. For example, individuals who smoke are not protected, nor are individuals with dogs. A restricted breed owner can’t sue you for discrimination if you clearly state “No pets are allowed on the property” in your lease.
However you choose to handle this issue, ensure you’re on the right side of the law and screening all applicants the same way. You can even use one of those handy-dandy lawyers I mentioned above to develop a fair and legal screening process that you can use for each and every tenant.
How to Handle Higher-Risk Tenants and Select the Right Policy
Fortunately, there are insurance solutions for all of these types of tenants. If you are a landlord, you may decide to avoid these types of tenants altogether when selecting a tenant for your property, provided you aren’t discriminating. But if your heart or pocketbook compels you to take some of these higher-risk tenants on, I’ve got good news. All of them can be insured.
The question for you will become whether doing so is worth the cost. This question will require you to know the exact cost, but also take other factors into consideration. If the tenants are running businesses, perhaps they will assume the cost of the policy. The more you know about the situation is crucial, and yet another reason to always communicate directly with tenants. Speaking of the power of knowledge, keep in mind that you should…
Select Appropriate Insurance Options and Know Their Costs Before Investing
Specialty insurance can be 150%-300% higher than a traditional landlord policy. If you are getting involved in a real estate deal that includes these types of tenants, that is something to consider ahead of time. You may find yourself a great deal involving these types of tenants, but later find that once you’ve applied actual insurance costs, it isn’t such a great deal.
The cost of insuring the property should be figured accurately in any pro forma so you know what you’ll really be spending. Most of us know the value of having a “buffer” in our pro formas. Ideally, you should have both—a buffer for unexpected costs and an accurate, up-to-date figure for your projected insurance costs.
One Final Important Tip
Get an actual quote in hand before making offers on properties that involve these types of tenants. Don’t go with a verbal or over-the-phone agreement. You want the actual piece of people to determine the cost of insuring your real estate business. It is best to give your agent one to two weeks of lead time to research the best options for your quote.
Whether you choose to dodge these tenants altogether or proceed with a promising business that involves these types of tenants, I wish you the best of luck. I’m always available to answer questions for the BiggerPockets community. While I post frequently in the forums, I look forward to hearing back from some of you hear!
So please feel free to ask questions, add your comments and thoughts, or otherwise continue the conversation in the comments section below.
Thanks so much for reading my first BiggerPockets piece and I look forward to hearing from you all soon!