Risky Business: Avoiding, Transferring and Mitigating Risk in Property Management

As discussed in RealWorld 2018 sessions 

Operating a property management company today means exposing your business to risk in a variety of forms. Not having a safety net—a true risk protection plan—could be the biggest risk of all.

Of course, risk means economic loss—the kind that erodes gross revenue and NOI. According to LifeLock®, while just 7% of all identity theft is loan or lease fraud, it adds up to millions of dollars lost each year. Loan or lease fraud occurs when a borrower or a lessee uses someone else’s information to obtain the loan or lease.

While risk is a harsh reality of property management, it’s important to know that you have control over how to manage it. This includes measures that go beyond risk mitigation. By definition, mitigation is “a lessening the force or intensity of something unpleasant” (dictionary.com). If you wait to mitigate, you’re only addressing one-third of a responsible and effective risk management strategy. Here’s why:

• There’s a risk of a kitchen fire or accident at the property, a result of a careless resident. You can’t calculate that risk and mitigate an accident or even the behavior of your renters.
• There’s a risk that a new renter isn’t even the person that’s referenced on the credit application. You can’t calculate risk and mitigate what you don’t know about a prospective renter.
• There’s a risk that a renter will skip out on the last few months of their lease, leaving you with bad debt. You can mitigate this risk, but at what cost to your occupancy?

Risk management sometimes gets confused with mitigating risk, which is reducing the impact of an event or cause that can’t be avoided or covered by another party. Risk mitigation really is just one component of the greater risk management approach, which provides solutions for not only mitigation, but avoidance and transference of risk as well.

[Additional Reading: How To Create an LLC for Rental Property and Transfer Your Portfolio]

It starts by first avoiding as much risk as possible through resident screening; second, by transferring risk through renters insurance; and third, mitigating remaining risk with security deposit and alternatives.

Following is a three-tier risk management strategy that can help you stay competitive in your market, manage your renter risk, and side-step risky business decisions in your leasing process.

Tier 1: Avoid risk with resident screening

Resident screening tools have evolved beyond a simple credit and criminal background check. Sophisticated algorithms and advanced data analytics technology have enabled property management companies to be more effective than ever in identifying risky renters, including:

Fraud prevention

Application fraud is on the rise, and is pervasive across all channels of the resident application process. Whether your target resident population applies online or visits your leasing office, the cost of this transgression, be it intentional or unintentional, is escalating. Help avoid painful and costly evictions by stopping fraud before it starts, whether it’s online or in-office, with the right fraud prevention tools.

Access to key historical rental data

When the most accurate predictor of future behavior is past action, you want to be armed with the knowledge you need to inform the best decisions possible. With the right resources in place, you’ll be better able to reduce delinquencies, bad debt and fair housing complaints.

Flexibility to adjust with the market

Of course, you want to maximize revenue and offset incremental risk. The best way to achieve this is to employ a system that can take the guesswork out of manual changes to your screening settings by automatically adjusting conditional requirements to best combat vacancy, while delivering peace of mind that you’re accounting for risk and staying compliant.

Tier 2: Transfer risk with renters insurance

Mandating renters insurance is a proven tool to transfer risk to resident policies. Additionally, integrated renters insurance programs that provide proactive, automated communications are much more likely to drive resident participation, ongoing compliance, and safety from risk. By making affordable insurance available to your renters, you can improve profitability by reducing financial loss due to resident-caused damage and claims that don’t meet the deductible.

In fact, according to RealPage, communities that require renters insurance report, on average, 45% lower expenses from resident-caused losses than those that do not require residents to carry their own insurance. Look for:

An alert system for non-compliance

This functionality automatically alerts your staff when renters go out of compliance. The best option integrates directly with your property management software.

An automated renter communication system

Save your team valuable time and energy by employing an automated communication service designed to help encourage residents back into compliance.

Interim coverage for non-compliance

Look for a tool that protects your assets by placing a liability-only insurance policy on the unit (also known as “gap protection”)—proactively, automatically, and retroactively—until the resident returns to compliance.

A property management professional tells the story of a resident golfer’s unfortunate timing while working on his swing one summer morning near the parking lot. While using plastic practice balls to reduce the risk of breaking a window, the resident was about to make contact when the sprinklers came on. Instead of striking the ball, the club hit squarely on a sprinkler head, sending a geyser in the air and dousing the interior of a convertible.

Because a renters insurance policy wasn’t in place, the renter was on the hook for a few hundred dollars of damage to the sprinkler system and cleanup of the car.

Tier 3: Mitigate risk with a security deposit alternative

Security deposit alternatives are evolving. Traditionally, they’ve worked by offering a surety bond in place of a standard cash security deposit. This is designed to help increase lease closings (prospects see the lower cost and are more likely to rent) and to reduce your exposure to resident loss, costing a fraction of the traditional deposit amount, yet still protecting your properties in case of default.

But, like conventional resident screening programs, traditional security deposit alternative programs are not enough today. You need a solution that puts the right management tools in place to adjust premiums and coverage for each company, property and resident, to ensure pooled funds are there when you need them.

Finding a program that maintains the effective functionalities while improving historical shortcomings is possible. Ultimately, you want to stay competitive, maintain occupancy, and effectively react to dynamic market conditions without reduced or waived security deposit concessions.

With a security deposit alternative in place, a pool of funds is available to the property, effectively balancing good actors with the actions of bad ones. Non-refundable to renters, a security deposit alternative lowers the cash required for a deposit without stripping the protection of pooled funds to mitigate risk to the unit or property.

Whether or not you offer a security deposit alternative, it’s important to remember to communicate your security deposit policies clearly with your residents before they sign on the dotted line. This, especially consider that 36% of respondents to a Rent.com survey reported that their community manager offered no explanation for why they withheld security deposits.

The moral of the story? Think beyond risk mitigation. To most effectively manage risk, approach it three ways: avoid, transfer and protect yourself against eroding gross revenue and NOI.