A 3-step guide to managing security deposit returns

Amanda Maher
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Over the weekend, I was driving through New England with a group of friends when one asked if we could stop at his rental property in Eastern Connecticut. He wanted to pop into one of his units where the tenant had just been asked to leave for non-payment of rent, and the property manager indicated that the unit had been left in rough shape. Sure, we can stop. No problem.

We get to the four-unit building and take a look inside. The first thing we noticed was the horrid smell coming from the kitchen. Trash bags had been left open, flies were buzzing throughout and moldy food had started to leak out of the bottom of the fridge. Then we noticed the giant hole in a closet door, broken window screens, the destroyed carpets, and the busted sliding glass door to the back deck.

No big deal, my friend thought. He would just take it out of the tenant’s security deposit. After all, the property manager had collected two months’ rent as security deposit when the tenant first moved in.

Two months’ rent, I thought? Was that even legal? And if he was going to tap into the security deposit, what did he need to do to make a claim against it?

First things first: It’s important to understand that every state has its own statute that outlines security deposit rules and regulations. A state-by-state overview can be found here. As it turns out, my friend was correct. In Connecticut, he can indeed take two months’ rent as a security deposit. No issue there.

Some states, including Connecticut, require security deposits to be held in separate bank accounts (to prevent what’s called “co-mingling” of funds), and in some cases, interest must be paid to the tenants on this security deposit every year. This is really, really important to remember because in some states, if a landlord does not hold the security deposit in an escrow account and pay interest to tenants accordingly (even if interest is only pennies each year!), the tenants can automatically sue the landlord for up to THREE TIMES the cost of one month’s rent (called “treble damages”). As a landlord or property manager, it is critically important to understand if there is a similar provision in your state’s statute.

In the best case scenario, a landlord will walk through a unit after a tenant vacates the property and will see no reason to make a claim against the security deposit. In cases like these, landlords should pay close attention to their state’s deadlines for returning security deposits. In Connecticut, landlords have 30 days to refund the security deposit, or 15 days after receiving written notice of a tenant’s forwarding address, whichever is later. The timeline can vary drastically by state—in Tennessee, landlords only have 10 days to refund a security deposit!

But as we all know, things don’t always go smoothly. So what do landlords need to do if they’re going to deduct from a tenant’s security deposit?

  1. Be sure that deductions qualify. Most states allow a landlord to use security deposit funds to recover the costs of unpaid rent and damage to the unit above normal wear and tear. That’s the case in Connecticut. However, in some states, like Indiana, landlords can recover unpaid sewer and utility bills. Iowa law allows landlords to keep the security deposit to put towards the cost of recovering possession where the tenant withholds “in bad faith.” In other states, eligible expenses are not governed by statute at all, but rather by the terms of the original lease agreement.
  2. Document all damages. Interestingly, not all states require a walk-through inspection before making a claim against the security deposit. Even though it may not be required, it’s usually best practice to do so anyhow. If the tenant hasn’t moved out yet, try to arrange for them to be present at the inspection—this will go a long way toward minimizing deposit disputes. Take pictures of all damages (ideally, you will have “before and after” pictures of the unit to offer as a comparison in the event the tenant disputes your claims). Also, keep a record of all unpaid rent, utility bills and other expenses that are not necessarily “damage” related so you have that proof as well.
  3. Prepare an itemized list of all deductions. The itemization should be in writing and state how the deposit will be applied toward back rent, cleaning, repairs, or other financial obligations required under your lease or rental agreement. List the item (such as repainting the living room or five days’ unpaid rent) and the dollar amount of the deduction. Attach receipts and invoices for all repairs, or include a reasonable cost estimate for those repairs. A template itemization form can be found here.

No matter how meticulously you comply with the state’s security deposit laws, a tenant might still try to sue you in an effort to recover his or her full security deposit.

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Tenants usually sue in small claims court where it’s relatively easy and inexpensive to file. Some states will require a tenant to send you a demand letter before filing in court, and this offers you one last opportunity to settle things with the tenant outside of court. Again, this is a good time to look back at your state’s statute to ensure you’ve dotted all your “i’s” and crossed your “t’s.” If you’re even one day over the deadline for returning the security deposit or notifying the tenant of deductions, or if you failed to hold the security deposit in escrow as required by law, the tenant may automatically win his or her small claims suit— even if the tenant did, in fact, trash the unit! If you’re sued and lose the case, you risk owing the tenant the deposit and hefty penalties or punitive damages. Your best bet is to try to stay out of court and work out a reasonable compromise with the tenant.

If a compromise isn’t possible, and you feel confident that you have not erred in any way, then it’s time to start preparing for court.

Bring the following with you: a signed copy of the lease agreement; copies of any correspondence between you and the tenant that discuss cleaning, damages, repairs or security deposit claims; any move-in or move-out inventories that were conducted, as well as the photographs and other evidence you kept regarding the damages; the security deposit itemization you sent to the tenant; back up to the itemization (i.e. invoices from contractors, cleaning receipts); and anything else relevant to your case.

When you’re in court, you’ll want to be able to explain your case clearly and concisely to the judge. Again, this is the time to showcase how well you understand your state’s statutes regarding security deposits. Cases usually take less than 30 minutes for a judge to hear before making his/her decision.

In the event that a tenant’s security deposit does not cover the full breadth of the damages, you may also sue in small claims court. You’d follow the same steps—starting with a demand letter sent to the tenant. Again, this is the worst case scenario that most landlords should try to avoid. Unless the damages are extreme, landlords are usually better off taking the full security deposit and eating the rest of the costs. Suing in small claims court is a futile effort, anyhow, if you are unable to locate a tenant who has since moved out of the area.

Of course, the best way to avoid a dispute over a security deposit is to prevent getting into that situation from the outset. Our best advice to that end: Actively communicate with tenants throughout their tenancy. Set expectations from the outset. Who’s responsible for what maintenance and repairs? Who pays which bills? Then, keep lines of communication open – especially if there’s any sign of property damage or if you start to have concerns about your tenants’ activity.

With September 1 right around the corner, we have no doubt that many landlords will be facing similar questions as my friend was this past weekend. Protect yourself by following state statutes to a T! And don’t forget to protect yourself upon signing new leases. Conduct a walk through and thoroughly document the condition of each unit. It might require a bit more effort up front but in the long run, you’ll be glad you did!

Read more on Accounting & Taxes
Amanda Maher

Amanda Maher

Amanda Maher is a self-proclaimed policy wonk who dabbles in real estate law. She holds a B.S. in Political Science and Sociology from Boston University, as well as a master's in Urban and Regional Policy from Northeastern.

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