How to Rent Your House and Generate Passive Income – 15 Actionable Steps
BY BRANDON VAGNER, CPA, Ph.D., & WALLET WIT FOUNDER
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My wife and I make passive income every month from renting out our first house, and we’re extremely thankful we decided to rent vs sell our house. Owning a rental can be an incredible source of income for your family, and in this article, I’m going to walk you through the steps to rent out your house.
If you’re a regular reader of the WalletWit blog, then you know my wife and I are all about having a smart financial strategy to help create security for our family now and in the future. Owning real estate is a piece of our overall strategy, and based on our experiences so far, I think you should consider it too. If we can do it, then there is a really good chance you can too.
15 Actionable Steps to Rent your House
- Decide on renting vs selling your house
- Find a new place to live & determine a timeline
- Setup a LLC to protect yourself
- Identify city requirements
- Obtain a high-quality lease agreement template
- Create a monthly budget to help determine necessary rent price
- Clean and make house repairs
- List the house for rent
- Identify the best possible renters from initial showings
- Perform a background and credit check
- Select the final renter
- Get the lease signed
- Collect first month’s rent, last month’s rent, and security deposit
- Setup appropriate insurance coverage
- Perform and document a pre-move-in walkthrough
Step 1: Decide on renting vs selling your house
Deciding to rent your house is not a no-brainer by any means. You definitely need to think through all aspects before diving into it. Here are a few major things to help in that decision process.
Is there demand for your size house?
You need to do a local market assessment and determine if there is demand for rental houses your size. In a small town of 5,000 people, there might not be much rental demand for a 4,500 square foot house that has a high monthly rent price. That said, you want to ensure you’re going to be able to rent out the property within a reasonable amount of time. You wouldn’t want it sitting on the market for 6 months just because of a demand issue.
If you’re in a city, you would be shocked at how much demand there is for large rental houses. We have some friends who own a 4,000+ square foot home in the Nashville TN area, and they get $3,700 per month in rent revenue from that house. They actually just put it back on the rental market and had multiple people interested within the first week. Demand is certainly high here, but is it where you live?
Evaluating from a high level, can you get what you need in rent?
It’s best to do a detailed budget at this point, but most people should be able to ball park their monthly property expenses and determine what a competitive rent price should be. You can easily go out to Zillow and see what others in your area are asking for properties of similar size and condition. Just make sure you are confident you can generate enough in rental revenue to cover all your expenses.
Are you prepared to pay for a major repair expense?
My wife and I have been pretty lucky thus far and haven’t had any major repair expenses come up at our rental property. However, my emergency fund is large enough to cover a major repair if one were to need done, and yours should be too.
That said, through your monthly rent and included in your budget, you should be collecting a small amount that is earmarked for future repairs. Think about it like you’re putting money into a bucket for a rainy-day later down the road. Hopefully, way later down the road. Until you can collect enough into that rainy-day bucket, you’ll need to be prepared to pay for any necessary major repairs.
There are people who don’t think about this and end up either (1) going to get a loan to make the repair, which you never want to do, or (2) not fixing the issue, which will typically make your tenants extremely frustrated and angry and possibly result in further damage to the house.
Are you willing and able to handle the potential stresses of a rental property?
This article assumes that you will be managing the rental property yourself. That said, some people choose to contract that out to a property management company, and they eliminate a significant amount of any possible stress by doing so. However, I’m not a fan of hiring a property management company at this point in my life, because I want to ensure things are done right. If you are going to manage the property yourself, are you able to handle all the potential stress that comes along with it?
I will say, owning our rental property has not been stressful at all so far. Maybe we’ve been lucky or maybe this is just how it is when you own a quality rental and follow the steps I outline here within this article.
Step 2: Find a new place to live & determine a timeline
The biggest takeaway from this step is to determine a timeline. To establish a tenant move-in date, you have to know when you’ll be out and the place will be all cleaned and ready to go for the incoming tenants. So, if you’re interested in renting out your current house, you’ll need to go ahead and either buy or rent your next place.
Step 3: Setup a LLC to protect yourself (Optional)
How to protect yourself as a landlord is a very common question. You should know that you can rent your house without establishing an official business umbrella for your rental property. However, you do put yourself at risk if you don’t have that added layer of protection.
I say added layer of protection, because in one of the steps below I’ll discuss the necessary insurance coverage. You’ll need to have insurance on your property that does cover you to a degree. Also, you’ll want to make it mandatory in the lease agreement that the tenants purchase renter’s insurance, which will cover all their personal belongings in the event they get stolen or damaged.
Establishing a Limited Liability Company (LLC) is a way of protecting all your personal assets outside of the rental property. Think about it like this, you wouldn’t want any future tenant to have the ability to sue you and be able to recover money you have sitting in personal bank accounts. Establishing a LLC significantly reduces the risk of any tenant having that ability.
Step 4: Identify city requirements
You’re going to want to check with your local city and/or county about requirements they might have regarding the establishment of a rental property. When we went through this process, we learned that we had to mail all our neighbors and notify them we were going to be renting soon and allow them the opportunity to object through an official process with the city. We also learned that there was a mandatory city inspection before any tenant could move in.
Luckily, no neighbors objected and the city inspection went smoothly. The city inspection only found one small safety issue (fire detector battery) that had to be addressed. I would suggest leaving yourself a few days to address potential city inspection findings, because they are extremely thorough and you might have to contract someone to complete the fix if it’s something you can’t handle.
Step 5: Obtain a high-quality lease agreement template
In the event of anything occurring during the lease term, your lease agreement outlines responsibility and remedies. There are a lot of important steps in this process, but getting a good lease agreement is one of the most important ones.
I have a good friend who leased a house to a tenant and had them sign a very basic lease agreement he had downloaded for free from the internet. In addition to the lease agreement, they had verbally agreed to a few things, but none of those additional terms were included in the basic lease and that basic lease didn’t include key terms that he really needed in there. To make a long story short, he got screwed down the road and immediately went to a high-powered attorney to draft him up a lease agreement that would protect him in the future.
I recommend reaching out to a reputable local attorney and getting a solid lease agreement. All these law firms have templates ready to go, and it should be extremely low cost as a result. Now, if you have special terms you need in there for some reason, make sure to discuss with the attorney so those terms can be added the right way. I personally add my own terms if needed, but you might not be as comfortable making those adjustments yourself.
Step 6: Create a monthly budget to help determine the necessary rent price
If you haven’t already done so, you MUST create a monthly budget for your rental property. You would be shocked at how many landlords don’t have a budget and just wing it. There is absolutely no way to know if you’re making or losing money if you don’t have a budget, and the whole purpose of a rental business is to make a profit.
List out all your monthly expenses associated with the rental property. These will likely include your mortgage principle and interest, property taxes, insurance, home owners association (HOA) fee, trash, repairs estimate, etc.
As mentioned above, you can search rental listing websites such as Zillow for similar houses to help you determine what the market price is for your rental. Keep in mind you don’t want to just look at the square footage and area of the town. Make sure to take into consideration house upgrades and overall quality. I’ve been a tenant of a place in the past that easily could have gotten an extra $200/month, but the landlord didn’t do his/her homework.
Step 7: Clean and make house repairs
You’re going to do a lot of work to ensure you get a good tenant in your property that will take care of the rental. You definitely want to ensure you’re turning over a house that has been cleaned extremely well and doesn’t have any repairs that still need to be made. Basically, put a little work in upfront so you can hopefully rent to good renters for a long period of time.
One of the fastest ways to really make a tenant angry is to leave them a house that needs cleaned and repaired. The last thing you want is an angry tenant.
If you’re not willing to clean well, then buck up and hire a good cleaning company. Just do it.
I once had the pleasure of listening to a Disney executive speak, and one part of his speech really impacted how I went about life from that point forward. He said that they would require hotel room cleaning staff to lay in the bath tub after everything was clean so they could look around at the room from the vantage point of a guest taking a bath. They required this, because often times cleaning staff would accidentally miss areas of the room.
When cleaning and making small repairs on your rental, really focus on where their sightlines will be and make sure everything looks good. Their comfort and satisfaction will directly impact your stress levels down the road. So, do everything you can to get the house in good condition before they move in.
Step 8: List the house for rent
Depending on your location and the times, people may use different websites and/or apps to search for rental properties. A while back, my father-in-law had success with craigslist, but times have since changed and many people are using Zillow to search for their rentals. Yes, Zillow isn’t just for selling your house. You can also list your rental on their too. It’s actually where we listed ours and it was extremely easy.
The place we’re currently renting in the Nashville TN area was listed on Zillow and within 24 hours the property manager had 7 people interested in the house.
Step 9: Identify the best possible renters from initial showings
There is an art to showing your rental property, and this is why I manage my own property. This is an incredibly important step in the process.
You first want to pay attention to how they communicate with you. Are they polite and professional or do they have an attitude and act unprofessional?
When they come to see the property, try your best to meet them outside so you can get a look inside their car. The condition of the inside of a person’s car is a strong indicator of how well they will take care of your rental property. Allow me to clarify that a person can drive a $1,000 car and keep it very clean. Don’t judge them on the type of car they drive or if it has a rip in the seat. Simply, look to see if they keep the inside of the car clean.
Pay close attention to the types of questions they are asking. For example, our current tenant asked us on the phone if the house was clean and said she only wanted to rent it if it was clean. That was a strong indicator that she wanted to live in a clean house and would likely keep the house clean over time.
When that same tenant of ours came to the house to see it, she actually took her shoes off at the front door. That was another good indicator that she was very respectful and would likely take care of the place.
Overall, get a feel for whether you think the person would actually take care of your property. If you show it to 7 people on the first weekend and don’t get a good feeling, then keep looking. You don’t want to put irresponsible people in your rental property.
Have the candidates complete a rental application at the time of the showing
A significant piece of the showing process is to get a renter’s application completed by each interested party. You can find tons of free applications for download online, but you’re primarily looking to see how many people will be living there, who they are, if they can afford the rent, and whether or not the potential tenant(s) have a record.
Make sure the application asks them to list their income and all debts / recurring monthly payments they might have. An example of a major recurring monthly payment that wouldn’t be listed as a debt would be private school tuition. We actually ran into this when renting our first house out. We only discovered through verbal communication that they were paying for private school tuition. That can make a massive difference when determining if somebody can afford your rental or not. Not everybody manages money well, and sometimes you will have to break the news to people that they simply cannot afford the rent you’re asking for.
Step 10: Perform a background and credit check
Once you have the tenant candidate pool narrowed down to two or three people/families, your next step is to perform a background and credit check on the individuals.
IMPORTANT: Do not skip this step. Yes, it will cost you a little money to do, but it is well worth it. If I recall correctly, I think we paid something like $35 for the background and credit checks.
Here is why this step is so important. People will flat lie and/or won’t be forthcoming with information. For example, we had a very nice couple wanting to rent from us. They had two kids; wanted to stay in the property for a long period of time; had a great income between the two of them, and seemingly could afford the property. We were almost certain we were going to rent to them.
Then we ran the credit check on them and discovered they had an insane amount of debt they had not told us about. Being the financial guy I am, I ran their monthly budget and discovered they would only have around $200 per month for food and nothing for savings if they rented from us. That’s assuming both people were able to keep their jobs.
Ultimately, I had to break it to these people that it would be in their best interest to find a cheaper rental. I also knew going into that conversation that there were rental options for $200 – $300 cheaper than ours. For a couple living so close to the edge, that extra cushion is massive.
Step 11: Select the final renter
After you have completed all the background and credit checks, your next step is to pick one. My tie-breaker is always my gut feeling. If I have two candidates who can both afford the place, I think back to my initial interactions with them and make my decision based on that.
Just make sure you don’t make your decision based on income alone. Just because somebody makes $150,000 per year, it doesn’t mean they are thoughtful and respectful people.
Step 12: Get the lease signed
Nothing is finalized until you get that lease signed. If you have two people who will be living there, make sure you get both signatures on the lease.
Step 13: Collect first month’s rent, last month’s rent, and security deposit
In the lease it should state that due upon lease signing are the first month’s rent, last month’s rent, and security deposit.
I make my security deposit equal to one month rent. Our rental property has a monthly rent rate of $1,450. So, when the tenants signed the lease, they wrote us a check for $4,350. Yes, that is a lot of money and it helps me ensure I’m getting tenants who are responsible with their money and can afford the place. Most all places my wife and I have personally rented from, require the same.
The primary reason you want to collect last month’s rent in the beginning is because it’s easy for people to simply not pay you the last month. Many won’t want to pay last months rent, because they will likely be moving out a couple weeks before the end of the month if they aren’t going to renew with you.
Step 14: Setup appropriate insurance coverage
Before your tenants move in, you’ll want to ensure you have the appropriate insurance coverage. It’s not enough for your tenants to just have renter’s insurance. You have to have primary insurance coverage on the place.
A big thing to consider with insurance is who will your provider be and whether you’ll actually get paid for a claim. This is why I go with State Farm. I lived in Southern Illinois when the 2008 derecho hit. If you want to see something crazy, look that storm up. It destroyed so many towns, but I took notice of who was getting their insurance checks and how long it took. State Farm was incredibly fast and hassle free. I can’t say the same for many other providers. Sure, some were just as good, but I saw many families struggle to get their claims processed.
Step 15: Perform and document a pre-move-in walkthrough
From my CPA/Big-4 Accounting days, documentation, documentation, documentation was drilled into me. If you ever have to go to court, the only thing you can hang your hat on is evidence. The condition of the house prior to the tenant’s moving in is your word vs. the tenants unless you have documentation. That said, if you do an exit walkthrough at the end of their lease term and find a huge hole in the wall, you can withhold their security deposit, but unless you have documentation that hole wasn’t there when they moved in, it will be a battle in small claims court.
Having a rental property can be a financial blessing for your family, but you’ll want to consider these steps I’ve outlined to help ensure it’s a blessing and not a nightmare.
Rental property is a piece of our strategy to building wealth, and I hope it’s something that helps your family too. In the comments below, tell us what you think is the most important step in the process of renting a house. We would love to hear from you, and hope to see you back here reading future Wallet Wit articles.