The new creditworthy: Assessing your risk

With unprecedented job loss and a mortgage crisis that doesn’t seem to want to quit, property managers and investors are faced with what can only be described as an opportunity and a challenge.  When we finally do emerge from this financial crisis, the Modern Depression for some, it’s very likely that credit will never look the same.  Many individuals, even those with once stellar credit histories and responsible spending habits, have been dealt a devastating blow.  And what is the one thing that binds all of those in financial trouble?  Each of them will need to locate safe, affordable housing despite their new and sometimes deeply flawed credit.

Landlords, particularly independent owners with few properties, have long been known for viewing tenant risk on a case by case basis.  It can be said that any landlord/tenant relationship is one of the bigger leaps of faith in business—a tenant assumes that a landlord will maintain his or her obligations for a lease period, and the landlord assumes that said tenant will make timely rent payments and care for the property.  A great deal of risk is implicit on both sides.  For renters struggling to find housing in these uncertain times, it can be a blessing to find a landlord willing to work with a less than perfect past.

We may have reached a moment in time where an individual’s credit score, or FICO, is not the most reliable indicator of his or her ability and/or desire to pay debts and obligations.  While a score of 600 has long been considered a “floor” for a lenders and landlords alike, there is no across the board standard, and with good reason.  A credit report is fluid and ever changing and will not tell you the same thing 30 days from now that it will tell you today.  Therefore, it may be in the best interest of your business to look more closely at other, more static criteria to determine whether or not to rent to a particular tenant.

Reliable factors to assess tenant risk:

• Longevity of employment, income, and future employability
• History of utility payment
• Credit defaults
• Eviction history, if any

Lenders often use the 45/55 rule when it comes to an income to liability split.  If 45% of one’s income will cover housing as well as other debts and obligations, it is assumed that the other 55% will safely pay for living expenses like groceries, insurance, transportation, and entertainment.  While these figures need not be exact, 45/55 can be a good benchmark for landlords to live by as well.

Working with a prospective tenant and operating with understanding shouldn’t be confused with adopting an “anything goes” policy.  Just because risk is inevitable does not mean that nothing can be done to mitigate it.

Strategies for reducing your risk as a landlord renting to credit troubled tenants:

• Collect personal references and/or request a cosigner
• Being mindful of your state’s laws, ask for an additional upfront rent or deposit amount
• Contact the financial institutions your prospect banks with to see that account(s) are in good standing
• Carefully verify employment and income
• Do invest in tenant screening services.  In addition to uncovering detailed credit information that may be helpful, a criminal background check is and will always be extremely important

It’s often said that the best way to predict future behavior is to look at past behavior.  In these changing times, it is important to note that credit history won’t necessarily provide a black and white, good or bad view of a renter’s character and intentions.  More and more people will be taking the next few years to rebuild their financial lives, and you, as a landlord, can be a significant and invaluable part of the process.

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Filed under: General Information, Property Management Topics, Real Estate Investment, affordable housing, customer service, foreclosure, Landabout, Landlord, lease, multi-family, Property Management, real estate management, recession, reduced vacancy, rental, tenant relationships, tenant turnover, wealth creation