Rental property is a great way to earn an ongoing source of income, but making a living as a landlord involves risk as well as reward. If you are not properly protected before you start working with tenants, you may be a lot more vulnerable than you realize.
Just consider this common scenario: You have purchased an investment property, put in some sweat equity fixing it up, and found your first tenant. That person moves in and now you’re ready to sit back and start collecting rent checks while taking care of the occasional maintenance request. The only problem is that a host of liability issues could pop up at any time. Here are just a few examples ranging from the common to the catastrophic:
- A branch from a tree that has not been properly trimmed falls on a tenant’s car.
- A defective handrail causes a tenant to fall down a flight of stairs.
- A soil test reveals the presence of contaminants on your property.
- A child drowns in a pool on your property that has not been properly secured.
These are very specific examples, but they are meant to illustrate all the unpredictable things that could happen on your rental property. And depending on the circumstances, you, the landlord, could be held responsible. You might think an insurance policy will protect you, but if the damages exceed your policy limits or the claim is not covered under your policy, it may not be enough. You should periodically review your insurance needs with your insurance agent, to confirm you have the right types of coverage (a business policy versus a standard homeowner’s policy) in the right amounts.
Protecting yourself and your investment property involves three challenges:
- Insulating yourself from personal liability
- Preserving the value of the specific piece of real estate; and
- Ensuring that your real estate portfolio is not affected by a liability on any single property.
The first thing you can do to protect your interests is to purchase insurance with sufficient limits for the exposure anticipated, along with an umbrella insurance policy. Umbrella policies are designed to supplement the coverage offered by your primary policies. They might seem like an unnecessary expense,ut the amount you pay month after month tends to be far less than the additional coverage you receive if and when you need it. If you own your property as an individual or couple, an umbrella policy is imperative for protecting you from liability for catastrophic personal injuries suffered by your tenants or others on your property.
While insurance is definitely important for (1) protecting the structure of the rental property; (2) providing lost rent in the event of an occurrence, such as a fire; and (3) paying out claims and paying your defense lawyer in the event of a claim for personal injuries relating to your property brought by someone other than an “insured” under the policy; insurance does NOT protect you for any other liability. Other liabilities might include failure to follow the Wisconsin Statutes and Administrative Code for renting the property, maintaining the property, returning security deposits, handling evictions, and the like. Damages for failing to follow the law can be significant, and may include payment of the attorney’s fees of the suing tenant.
In order to add a layer of protection between you as an individual and these claims, landlords should also create a Limited Liability Corporation (LLC) to take ownership of rental property. There are a number of legal benefits to LLC protections, but they are particularly valuable to landlords because they separate your rental property from your personal assets. If an unfortunate incident happens on one of your properties and you’re held responsible, your home, savings, and other assets cannot be touched, so long as you have maintained the corporate formalities and treated the business as a business and not a personal “piggy bank.” Landlords should always talk to their lender if there is a mortgage on the property and get approval in writing before trying to transfer a property held individually into the name of an LLC, as doing this can violate loan requirements. The ideal situation would be to create the LLC first and then purchase the property in the name of the LLC.
Aspiring landlords should not be discouraged from scouting out rental properties, but they should also be very careful about how they set up their business. Rather than trying to figure out all the details on your own, why not work with a team of legal experts who know exactly how to help landlords maximize their opportunities? Reach out to Schloemer Law Firm for the kind of comprehensive and knowledgeable guidance all new landlords need.