We’ve inherited a lot of leases over the years when taking over the management of properties from stressed out Do-It-Yourselfers and competitors.
Most of them were…OK…but a surprising number had at least one issue that stood out to us as a red flag: something that could potentially cause serious trouble, either legally or financially, down the road. After enough of these, we realized that people genuinely don’t know how a lease should look — and we’d like to fix that with an ongoing monthly series. Let’s begin:
How to Analyze a Real Estate Deal
Deal analysis is one of the best ways to learn real estate investing and it comes down to fundamental comfort in estimating expenses, rents, and cash flow. This guide will give you the knowledge you need to begin analyzing properties with confidence.
Let’s start with one of the most important clauses — if this isn’t properly written, you’ll have given that inch, and have tenants taking the proverbial mile from you!
There are two major components of this clause actually:
- When is the rent due? (And is there a grace period?)
- What happens if the rent is not paid on time?
The Due Date
First up is the due date.
Seems fairly straightforward to require the rent to be paid by the first of every month or a similar date, right? Well if you shook your head yes to that you’re either new or riding a great streak of luck! By the way, do yourself a favor and have all your lease payments due on the same day of the month.
Inevitably, a tenant will contact you about their rent and you’ll either be out of the office or your internet/computer will be down (it’s always something) — and if you’ve got your rents due on all different days, good luck remembering them all.
So why is a straightforward due date not so straightforward? Simple: tenants are masters of excuses! ‘I mailed the rent in on the same day I always do, so it can’t be late.’ ‘I mailed it on time but they sent it back for some reason.’ The excuses go on and on.
So you want to unequivocally ensure there is no room for excuses. Something like, ‘Rent is to be received by us no later than the first of each month as postmarked by the US Postal Service.
No exceptions shall be granted for weekends, holidays, natural disasters or anything else and tenant is solely responsible for obtaining and retaining any proof of delivery or receipt.’
Take that, excuse-makers! Now if someone wants to claim they mailed the rent on time, just look at the postmark date and if it’s late direct them to discuss it with the postmaster. Note: if they pay via their bank’s online billpay service there is no postmark date, making this a bit trickier.
Penalties for Late Payment
There are two basic psychological choices to try to get tenants to pay on time: the carrot, and the stick.
The carrot (reward) approach involves offering the appearance of a rent ‘discount’ if they pay on time. The stick (penalty) approach charges an extra fee for paying late. Which one works better? Well many psych studies have shown humans respond more to the stick than they do to carrots.
Seems we’ll stay in a comfy rut we know and forego a pleasurable reward, but will exert more effort to avoid a ‘painful’ penalty. We’ve also seen combinations of the two approaches offering a discount for paying early AND a penalty for paying late.
Ultimately it doesn’t really matter which you choose to use as most tenants won’t even read, much less remember, the language you use. You may also have to contend with what a judge thinks of your approach if you have to go to court for an eviction or collection. We’ve had judges cut our late fees deeming them too excessive!
One important item we see 80%+ of leases missing, is that they don’t address the smart aleck tenant who says, ‘Since you’re already charging me a late fee, I’ll just pay my rent on the day before you take me to court.’ You don’t think a tenant will play games like this?
Again, you either just got started or you should be a professional gambler with the winning streak you’re on. To address this issue just make sure you lease has a per diem late fee that also kicks in after a grace period. Just keep it reasonable and be prepared to negotiate it with a tenant-friendly judge if you have to.
Speaking of grace periods, does yours really make your ‘due on the first’ language worthless?
Say your lease states rent is due on the first and there’s a five day grace period before a late fee kicks in. What happens if a tenant always pays on the 5th? Haven’t they effectively spit on your due date of the first? Or how about that carrot approach that rewards a tenant with a discount if they pay on time, but they always pay well after the first?
You might want to make any grace period you offer ‘revocable’ and clearly define when you will revoke it. Something like, ‘grace period will be revoked at landlord’s sole discretion if tenant pays after the first three times in any 6 month period.’
Please share your thoughts and ideas on further improvements to these ideas — we’re the first to admit we haven’t figured everything out, and we’re always learning. We’d prefer a fellow real estate professional teach us a thing or two as opposed to a tenant!
Be sure to leave your comments below!