Handling security deposits

Geoff Roberts
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Security deposits—and how they’re handled—may be one of the most misunderstood topics for landlords and property managers alike. Part of this confusion stems from the fact that security deposit laws vary from state-to-state. For example, many states have limits on how much the landlord can hold, but the actual amount can vary by state. Another example: some states require landlords to pay interest on security deposits while others do not. That’s why it’s important to learn your state’s specific rules. Mishandle a security deposit and you could lose your right to keep any of it, no matter how much damage the tenant has caused. Worse yet, you could find yourself on the wrong side of a judge’s verdict, owing your tenant double or triple the amount of the deposit.

What follows is a general discussion about handling security deposits. At the risk of sounding like a broken record, also be sure to check the laws in your state.

Deposit amount
Several states (like Massachusetts, for example) impose limits on the security deposit amount landlords can hold, while others (like Florida) do not. When a limit is imposed, it’s generally equal to a certain number of months’ rent. For example, landlords in California can collect two months’ rent.

Bank account
Where you hold the security deposit can also be a matter of law. In some states you are required to hold security deposits in a separate bank account “for the benefit of the tenant.” You may even be required to pay interest, depending on your state. In Massachusetts, for example, you are required to pay 5 percent per year or the amount of interest earned (whichever is less).

Statement of condition
Whether your state requires it or not, it’s a good idea to give your tenants a written statement about the condition of the property. (Also be sure that both you and your tenant sign the statement.) Better still, do a walk-through with your tenant before he moves in, noting any pre-existing damage along the way. That way there will be no question about whether or not that hole in the wall was there before the tenant moved in.

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Deductions for damage
When a tenant moves out, you have the right to deduct money from the security deposit for any damage he caused. Do a final walk-through of the property with the tenant, noting any new damage. You can’t deduct for “normal wear and tear,” so be sure to exclude those issues. It’s a good idea to bring along a digital camera so you can justify any deductions in case there’s a dispute. Depending on where you live, you may be able to deduct for unpaid rent as well. Again, check the laws in your state to be sure.

Whether you deduct for damage or not, many states have rules about the allotted timeframe for refunding a security deposit once a tenant moves out. For example, in Massachusetts landlords must refund security deposits or provide tenants with a detailed list of damages and the cost of repairs within 30 days. If a landlord fails to do this he loses his right to deduct anything … no matter how much damage the tenant caused.

Security deposits are a valuable tool that can help protect landlords against damage caused by tenants, but they do come with a certain level of responsibility. Handling them correctly will keep things running smoothly and ensure you stay on the right side of the law.

Read more on Accounting & Taxes
Geoff Roberts

Geoff Roberts

Geoff is a marketer, surfer, musician, and writer. He lives in San Diego, CA.

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