Risk management for landlords.

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RISK MANAGEMENT FOR LANDLORDS

You've bought your investment property and now you think it is time to sit back, relax and let the tenants pay it off. Wrong! You need to be diligent to ensure your investment is being paid off every month, but also that it's being looked after. Tern Scheer explains.

Avoiding the traps

Buying a rental property remains a popular investment option and is an ideal way to diversify your portfolio, offset tax and generate an additional income stream. However, as with any investment, it also carries risk.

It's a common perception among landlords that provided you select the right tenant, your investment will be as safe as houses. Research by Tern Scheer Insurance Brokers, however, shows that for 42 per cent of insurance claims paid to landlords for loss of rent, the tenant did not qualify for a refund of any portion of their bond. This means that in almost half of all instances, the expenses incurred by landlords exceeded the bond that their tenants had paid.

It's a business transaction

Too many investors get caught up in the excitement of purchasing a home and make decisions based on an emotional attachment to the property rather than its capacity to generate income.

First and foremost you need to recognise that buying a rental property is a business transaction and any decisions you make about the investment should be considered from this perspective. This means doing your homework on the property – an essential part of any investment decision – to ensure that you go in with your eyes open.

Consider location

Many people think that a larger home will generate higher rental income, but 25 per cent of people now live on their own, which means a three-bedroom home may not attract the most lucrative returns.

In many cases, a one or two bedroom unit in a good location could yield better financial results. Buying a smaller home in a suburb closer to the CBD may require a larger initial outlay, but is likely to generate greater long - term benefit.

The well-known adage “location, location, location” is still an essential home-buying mantra and should be a key consideration when investing in property. Consider the home's proximity to public transport, schools, amenities and shopping centres and find out how long it takes to drive or commute to the CBD. It may also be worthwhile investigating school zoning and the availability of childcare facilities.

Research occupancy rates and rental demand in the area where you want to buy. This will affect the value of your investment and give you an idea of the tenants you might attract.

Do your homework

It can be dangerous for investors to enter into a contract without checking previous rental records if the property has been rented in the past. A common assumption is that because the home has been rented previously there will be no problems, but this is not always the case. It is essential to access information about the payment history of the existing tenant as this will highlight any arrears that need to be addressed and whether there has been any previous damage to the home.

In addition, it is important to check the title of the property and who is registered on it before signing a contract. The type of title will affect the level of insurance you will need to purchase and your rights and responsibilities if you decide to sell the property. This is particularly important if the home is part of a group of properties such as an apartment or unit, because it may come under a community or strata title.

Market fluctuations

Be aware that the rental market fluctuates throughout the year, peaking between November and February and dropping in June.

A trap some investors fall into is having the property's potential rental earnings appraised during peak periods, only to find that settlement falls later in the year when prices are lower. For example, if you have your property appraised in February when demand for rental homes is high and the settlement date falls closer to June, you may not be able to achieve the rental income you anticipated.

When applying for finance to purchase your property, you will need to provide your lending institution with a statement of estimated rental income based on an appraisal conducted by a qualified property manager.

Appoint a property manager

It can be a challenge to find the time to service maintenance requirements, address potential liabilities, select appropriate tenants and conduct regular property inspections.

However, if you don't, you maybe neglecting your essential duty of care responsibilities, leaving yourself wide open to the risk of liability suits.

One way to minimise these risks is to appoint a property manager. A property manager will act as the point of contact between you (the landlord) and the tenant. They will be responsible for all of the day -to day dealings involving your property in return for a commission of rental income. The property manager takes responsibility for alerting you to any maintenance requirements and tenant issues, and conducts regular property inspections.

Qualified property managers have access to a nation-wide tenant default database, which can be a useful screening tool in alerting you of any unsuitable applicants.

Choose the right insurance

Insurance is an expense that some landlords try to avoid in order to reduce costs. If you purchase a cheaper policy that does not provide adequate cover, inadvertently choose the wrong type of policy, or don't have any insurance at all, you can expose yourself to the risk of legal liability suits. Part of your legal duty of care as a landlord is purchasing adequate insurance, particularly for a strata title property. Legal liability suits brought by tenants against landlords have increased by 300 per cent over the past two years. These usually relate to a tenant or their guest injuring themselves on the property. Legal liability claims, loss of rental income and damage to rental properties (either malicious or accidental) are all risks that you can insure against. Insurance is vital to guarantee regular rental payments, regardless of what happens to the property.

While in many instances you can use the services of a real estate agent or property manager to oversee the selection of a tenant, it is your responsibility as the landlord to ensure you have a suitable insurance policy in place. Even the most fastidious tenant is able to damage a property – whether accidental or otherwise – which can prove extremely costly, both in repairs and through the loss of rental income.

By seeking a specialised form of insurance cover, you can protect yourself from the risks associated with owning a rental property. This is particularly important in light of research from Tern Scheer Insurance Brokers, which shows that up to one in six investment properties in some areas will suffer either damage by tenants or loss of rental income.

When choosing an insurance policy, you should give careful consideration to ensure it contains clauses specific to your needs. The most common risks for a landlord are malicious damage by a tenant, theft, accidental damage, legal liability and loss of rental income. In line with this, you should choose an insurance policy that has been specifically designed to address these needs.

Therefore, you need an insurance policy that considers the risks specific to renting a property. This will provide financial peace of mind and safeguard your investment, ensuring you continue to receive a steady flow of rental income.

Source: Your Mortgage Magazine – February 2005