Drafting Residential Lease Agreements: Balancing Interests & Understanding Goals
The difficulties in property management are often overly burdensome. With the demands of tenants, increased operating costs, and diminishing tax incentives, the prospect of real estate investing seems less and less attractive (especially in recent years). There are, however, ways to address and plan for some of your challenges before they become problematic.
To maintain compliance with changes in federal, state, and local regulation, updating your residential lease agreement is a must-do at least every calendar year. Why not use that time as an opportunity to redefine your respective obligations with your tenant? Be mindful and cautious as there are limits. Here are a few considerations:
1. Rental increase by schedule
If you are lucky enough to have a long-term tenant, you may find it advantageous to incorporate a schedule of rental increases. Most commercial lease agreements are drafted in this fashion as it is expected to see some company growth over the duration of the lease agreement. As the tenant/company grows, it likely becomes more attached to the property location and community. Therefore, it would be obvious to seek additional rental income as the lease continues. Although, that may not be so easy in the residential arena.
It’s true, you may expect someone who resides in a certain place to become more entrenched in the community and therefore less inclined to relocate. But, incorporating scheduled rental increases within your lease agreement may still be difficult. There are usually many rental options available and moving is less daunting for your typical residential tenant than it is for a commercial tenant. Plus, strategically, once your tenant has proven they are capable of paying on time while simultaneously not breaking everything inside, the cost of raising rent may go beyond the monetary rewards.
However, if you want to chance losing a good tenant based on rental increases, you have some other concerns to consider. Your tenant’s income may not be able to keep pace with the increase schedule. This can lead to added stress on the landlord-tenant relationship and even a bit of latent resentment. A content tenant takes better care of your property and is more conscientious towards paying on time. Also, a tenant that feels grounded in the landlord-tenant relationship is more communicative. The relationship is seen as more of an allegiance rather than an opposition. This fosters the mutual benefits and diminishes the small repair costs that the tenant would take on your behalf, such as missing or broken drawer pulls or an oven light bulb.
Most importantly, there are increase limitations set by statute in most states. When creating your schedule, should you decide to incorporate one into your lease, you should consult an attorney or do some local briefing on this issue.
Increases in Rent
Again, be sure to familiarize yourself with the laws in your jurisdiction. But, as an example, in Washington D.C., to ensure enforceability, the Rental Housing Act of 1985* presents the following:
1. The increase must be tempered by statute.
2. The last increase in rent must have been at least 12 months prior.
3. The increase must not violate any other terms of the lease agreement.
4. In some cases, the rental unit must be properly registered with the appropriate authority.
5. The rental unit must be in compliance with all other regulations.
6. The landlord must give a 30-day notice of any increase in rent.
*Codified as: DC Official Code § 42-3501.01 et seq
Allowable rent increases in a rent control environment
Permissible increases in rent in the more highly regulated jurisdictions is often based on the Consumer Pricing Index. For most tenants nationwide, the maximum increase is whatever the Index represents as an annual adjustment, plus 2 percent, but not more than 10 percent.
For tenants that are elderly or disabled, the max is the CPI percentage only, but not more than 5 percent. Hardly worth the risk of finding the unit vacant should the increase exceed the amount the tenant can afford.
It is a delicate balance between getting the max return on your investment and retaining your timely paying tenant. Push too hard and you will risk the carrying cost of a re-rent. And, depending on the month, the number of vacant units may increase and your property will fetch a lesser amount.
2. Responsibility of tenant to make repairs
Upkeep of the property is another challenge some try to address within the lease agreement. In theory, when tenants are forced to contribute to the upkeep of the appliances and other included amenities, they tend to take better care of those items. In some jurisdictions, there is a limit to the amount that can be back-charged to the tenant. A typical clause may look something similar to the following:
“The tenant agrees to maintain all appliances in
reasonable working order. Throughout the duration
of this lease agreement, the upkeep and maintenance
of appliances are to be the sole burden of the tenant,
who will be obligated to pay all costs associated with
any repairs required, should a malfunction occur.”
This seemingly innocuous lease provision may be advantageous to the landlord but making the tenant the sole stakeholder in the appliances and other amenities during the term of the lease can create an unfavorable result. Often times, the tenant only re-reads the repair provision after something has broken. And, when they realize the repair falls on them, they may find ways to become overly thrifty. Before you know it, the property is filled with appliances fixed by the tenant’s crazy Uncle. Sure, he is a real wizard with bread ties and duct tape, but without fail, his talents always cause the fridge to make funny noises.
It is better to draft your lease agreement in a manner that will split the burden between the parties and allows the ability for the landlord to select the workman. This will at least ensure a job well done (hopefully).
3. Lease assignments & sub-leases
A general prohibition of assignment typical in residential lease agreements usually reads something like:
“Assignment of any tenant interest contained
herein is prohibited and will be construed as a
material breach subject to termination as outlined.”
Courts are typically going to view this clause in a light most favorable to the tenant. When drafting such a clause, it is important to keep this question in mind - what are my goals and what will this do to help me achieve them?
If you are like most, the goal is to get the best tenant for the property. Specifically, someone with the ability to maintain timely rental payments, who will not diminish the value of the property or the contents therein. Selecting such a person is one of the most challenging aspects of property leasing. Timely rental payments that will continue year after year, without stoppage is the holy grail of the housing provider universe.
If true, perhaps allowing a leaving tenant to find a suitable replacement so the property doesn’t sit vacantly, isn’t such a bad idea. Withholding consent to an assignment simply based on the fact that you didn’t hand select the successor may prove to be impudent. It may be advantageous to create something entirely different from what’s seen above, such as:
“In the event the tenant can no longer maintain
timely rental payments or the property is otherwise
no longer a viable option for residency, the landlord
will offer a 10% percent enhancement on security deposit
interest, should the tenant be able to find a suitable
assignee to complete the lifecycle of this lease agreement.”
4. Background checks
We all have challenges to overcome, but there are countless people in our society that have found themselves facing challenges that they cannot seem to overcome. Whether financial issues have resulted in poor credit or life’s choices have resulted in convictions, individuals with such challenges belong to the same category … risky renters. Not unlike any other segment of our population, that category is made up of the good, the bad, and the ugly.
While it is totally the landlord’s call as to whether to include a credit check during the screening process, if you decide to take that route, just remember that not every poor credit history is created equal. Before rejecting an applicant for that reason, consider the individual circumstance as great credit doesn’t guarantee timely rental payments, just as poor credit doesn’t guarantee untimely payments.
Now on to criminal records … a somewhat tricky subject. It is understandable to prefer for your tenant to not be a criminal or at least to be one that has not committed certain crimes. Reasonable, yes … lawful, not so fast.
In some instances, rejecting an applicant solely on the basis of a criminal conviction is discriminatory and a violation of the Fair Housing Act. In Fact, federal housing officials warn landlords to be incredibly careful when turning down ex-cons, as a penalty for discrimination or a lawsuit can be in the cards. To be safe, before prohibiting this class from consideration, you should conduct research in your local jurisdiction or consult an attorney.
Prior to putting pen to paper, or worse, copy and pasting from some obscure website, it is important to identify your goals as the property owner, then balance those goals against the typical language that is ubiquitous in today’s residential lease agreements. Always create avenues of recourse that allow for compromise and collaboration amongst the parties. Doing so will generate better returns than you might think.
Disclaimer: We are not attorneys and cannot provide legal advice. The research-based content presented does not in any manner serve as legal advice and is to be used for informational purposes only.
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