Landlords buy property insurance to protect against damage from fires and storms. But property damage isn’t the only risk that owners face.
What happens to owners’ cash flow when tenants default on the rent?
Property owners can buy rent guarantee insurance to protect against that risk too. Even better, they can require their renters to pay for this lease agreement guarantee.
Given that half of American tenants can’t afford their rent, and 93% of defaulting renters never catch up on it, lease default insurance helps landlords sleep at night knowing their cash flow is safe.
Here’s how lease guarantee insurance works — and how you can benefit from it without taking on extra costs.
What is a rent guarantee?
Lease guarantees come in two varieties: a co-signer’s guarantee and rent guarantee insurance.
As a residential investor, you need to understand both.
Co-signing guarantor
Historically, when investors talked about lease guarantees, they meant a co-signer on the lease agreement.
That co-signer could include a family member, such as a parent or sibling, who signs a personal lease guarantee for the rent obligations. They volunteer to accept liability for the payments. If the occupying renter stops paying, the guarantor steps in and makes payments on their behalf.
The property owner can pursue both the primary tenant and their guarantor for a deficiency judgment, if no one pays the rent. Usually the guarantor has a higher credit score or income, making them a more reliable signer.
Guarantors don’t have to be individuals however. Banks or businesses could also serve as a guarantor for a rental agreement.
A co-signer on a lease contract adds additional protection for the property owner, in the event of a default.
Lease guarantee insurance
More recently, insurance companies have started writing policies to guarantee tenants’ rent payments.
The renter or the landlord pays an annual premium for the policy, and if the renter defaults during that year, the owner files a claim. The insurance kicks in and starts making monthly rent payments to the owner until they’ve removed the renter and replaced them with a new tenant.
In the case of TheGuarantors, rent default insurance also includes security deposit coverage. It protects against tenant damage to the rental unit, just like a traditional security deposit.
Case study: Default on two leases
To illustrate how a lease with rent guarantee insurance plays out differently, consider a rent default in these two scenarios.
Typical rent default timeline
A renter moves in, pays rent for a month or two, then stops paying. Maybe they lost their job, maybe they simply got in over their head with car payments and other debts.
As a property owner, you wait the mandatory grace period required by your state’s landlord-tenant regulations. You then serve them with the state-prescribed eviction warning notice, which gives them a second grace period to catch up on the rent payments. These typically range from three to 60 days, depending on the state or local laws.
Then you file in rent court for eviction, and wait several more weeks or months for a hearing.
On the day of the hearing, you take off work to show up at rent court. You present your evidence that the tenant failed to pay rent. Hopefully the judge rules in your favor, but they could delay the eviction further if the renter spins a good yarn. It once took me 11 months to remove a non-paying tenant in Baltimore, because he knew every trick in the book to delay eviction.
Once the judge greenlights the eviction, you coordinate with the local sheriff or other official in your state to schedule the actual eviction date. This adds more weeks or months.
Finally, you take off work again to show up for the eviction. You bring your contractor to change the locks, and possibly clean out abandoned junk.
Then you have to put the unit back in rental condition — and start all over again with marketing the unit for rent, showing it to new prospects, screening tenants, and signing a new rental contract.
Rent default with rent guarantee insurance
The eviction process and timeline outlined above stays the same, regardless of whether you have lease guarantee insurance.
The difference? In the first scenario, you go for months on end with no rental income. You come out of pocket to pay for the property loan, landlord insurance, property taxes, repairs, maintenance, and property management fees. That reduces your net operating income for the year and could even put you at risk of defaulting on your loan.
With rent guarantee insurance, the policy covers all missed rent payments once the tenant is evicted. Your cash flow stays positive, whether the tenant pays or not.
How rent guarantees serve both renters & landlords
Property owners remove the risk of tenants defaulting on the rent. That makes rental cash flow more predictable, taking one of the largest financial risks off the table for owners.
Best of all for the landlord, they don’t have to pay for the insurance premium.
But what do renters get out of it?
Renters get two benefits out of lease guarantee insurance. First, it replaces their security deposit — instead of having to cough up one to two months’ rent when they sign a new rental agreement, they only have to pay the rent guarantee premium.
Second, they’re more likely to be approved by the landlord or property manager. Lease default insurance de-risks their tenancy for the landlord. An applicant with borderline credit history or income may still get approved for a rent guarantee policy, allowing the landlord to approve their rental application.
Rent default insurance doesn’t replace tenant screening
That said, rent guarantee companies like TheGuarantors still impose screening standards. They don’t insure every stranger off the street.
To be approved for a rent guarantee policy, the applicant must still meet certain credit and income standards. These can vary by the property and market, but landlords must still screen all applicants and submit documentation to the insurance company when they apply for a policy.
Difference between rent guarantee insurance & loss of income coverage
Rent guarantee insurance protects property owners against one specific risk: rent default.
Investment property insurance protects against other common risks such as damage from fires or storms. It often includes loss of income coverage, which covers the lost rental income in the event a unit becomes uninhabitable due to a “covered peril” such as a fire.
The property policy might also cover the cost of putting up the renter in an alternate accommodation while you’re repairing the damaged unit.
Many property policies also provide liability coverage. If a renter or guest sues you, these policies often protect against legal damages.
What doesn’t rent guarantee insurance cover?
Rent payment protection from a lease guarantee only protects against rent defaults. They pay the rent if the tenant defaults on an owed rent payment.
These policies don’t replace full property insurance coverage, as outlined above. Rent insurance doesn’t cover property damage, or lost rents due to a building becoming uninhabitable, or the cost of putting up a renter elsewhere. And rent assurance policies don’t provide legal liability coverage.
Rent payment protection doesn’t mean owners have guaranteed cash flow at all times. While this rent protection covers the lease term, the renter could opt to move out at the end of the term. The landlord would still endure lost rent due to the vacancy, and it falls to them to fill the vacant unit with another qualified tenant.
How much does lease insurance cost?
The premium for lease agreement guarantee coverage varies based on many factors, from the location of the property to the rent to the renter’s qualifications. The length of the lease term can also impact pricing.
As a general rule however, it ranges between 40% to a little more than a month’s rent.
Who pays for a guarantee on a lease?
In most cases, renters pay for the lease protection guarantee and the rent deposit guarantee.
However property owners can opt to step in and pay it if they prefer.
Is lease protection worth it?
Given that rental lease assurance protects landlords, and they don’t have to pay for premiums, it makes an attractive offer for property owners. Beyond the obvious cash flow protection, it also helps property owners fill vacant units faster, because they accept more applications.
That said, owners and property managers need to learn how to communicate the benefits to renters. Most renters have never heard of this type of lease agreement guarantee, and don’t understand how a lease bond can replace their security deposit.
Prospective tenants who don’t understand lease protection won’t want to pay for it. So, it falls to the property manager or owner to learn how to explain the lease agreement guarantee in a compelling way for applicants.
Read how we communicate the benefits to renters as an example.
Where do you buy lease guarantee coverage?
While relatively new to the US, tenant lease security coverage has existed in countries like the UK and Australia for decades.
Today, several rent guarantee companies offer policies in the US, including TheGuarantors. Create an account with us to start collecting custom quotes and submitting applications.
Final thoughts
One of the greatest risks for residential property owners is rent defaults.
When tenants stop paying the rent, owners must pay for all the property expenses out of their own pocket. That turns an asset into a liability with negative cash flow. In the most extreme cases, rent defaults and negative cash flow end in loan defaults and foreclosure for the property.
You don’t have to pay for rent default protection. You can take lease default risk out of the equation, eliminating a huge risk from your portfolio.
But you do need to learn how to communicate the advantages of lease agreement guarantees to renters, if you want them to embrace them. We can walk you through those benefits for renters when you create an account.
Stop losing money to defaulting renters. Start regularizing your net operating income.
