My Friend, My Tenant, Our Lease
Saturday, June 27, 2009
When Paul Yun moved out of a room he had been renting in Ellicott City and into a three-bedroom house he bought in Elkridge, he left with more than boxes and furniture. He brought his two roommates along as well.
Yun, 27 and an information technology consultant, said he considered renting the spare bedrooms in his new home to strangers but instead chose his friends "because I know and trust them." In exchange for that trust, his roommates pay monthly rent about $100 below market rate, Yun says.
As home prices drop and buyers find that their budgets will get them more space, some single buyers are transitioning into homeownership while retaining a staple of renting: rooming with a friend.
It may be tempting to approach such a situation more casually than if you had met a prospective tenant on Craigslist, but it's still a business transaction. That means you still need to run a credit check, sign a lease, collect a security deposit, charge market-rate rent, obtain the proper business licenses and report your rental income to the IRS. The bonds of friendship alone won't compel someone to pay rent when she's lost her job, or to fork over cash for damaging a window.
Licensing and zoning rules for an in-home tenant vary, so homeowners should check city or county codes to see whether permits are required. For example, homeowners in the District seeking to become landlords must establish a business by registering with the Office of Tax and Revenue, get a basic business license and submit a "clean hands" form to certify that they don't owe more than $100 to the city. A certificate of occupancy may also be required.
Karen Straughn, Maryland's assistant attorney general and director of the state's mediation unit, stresses the importance of playing by the rules. For instance, she said, you might decide against charging an application fee, but you should still run a credit check and place a renter's security deposit in an interest-bearing escrow account until move-out.
And although oral lease agreements can grant tenants the same basic rights as a written ones for periods of less than a year in the District and Maryland, real estate experts and government officials strongly advise landlords and tenants to put their agreements in writing. (In Virginia, oral agreements made with landlords who manage just a few units are not valid, according to the Northern Virginia Association of Realtors.) It's difficult to determine what's implied in an oral lease, Straughn pointed out. Memories are faulty. He said/she said disputes can get messy.
Some still see a written lease as an excess of caution. Derrick Eckardt, a small-business consultant who owns a two-bedroom condo in the District's Thomas Circle area, thinks disputes would be unlikely with his friend and roommate and says the two haven't felt a need for a written lease.
Such laid-back agreements are the biggest mistake of renting to friends, said Khalil El-Ghoul, a real estate agent with I-Agent Realty in Fairfax, who also cautioned that melding the landlord, roommate and friend roles can upset a household's emotional balance. Suddenly, you're sharing that home for which you plunked down your life savings, a situation that El-Ghoul said may lessen a home buyer's sense of ownership.
"People underestimate how much of a burden it could be to your life sometimes," he said. "It's not really yours anymore; you're sharing."
Eckardt, 29, hadn't intended to share his space; he originally planned to use his spare bedroom as an office. But now, he said, "it's one of the better roommate situations I've ever had."
Sharing extends to the condo's living room, where Eckardt decided not to hang his large college diploma, even though it was the only place where there was room -- it felt too private to display in a public space. "Any stuff in the common area is stuff that has to be okay for both of us," Eckardt said.
While sharing space can be touchy, mixing business and friendship ratchets up the emotional risk factor. For example, Jinhee Kim, an associate professor of family financial management at the University of Maryland, said a landlord might think he's doing his friend a favor by giving him a break on rent, but the owner might regret that arrangement if costly repairs arise or if the relationship sours. "You may lose money, but as well your friends," she said.
Kim suggests homeowners take on renters only as a short-term measure to boost finances and not as a means to buy a home they otherwise couldn't afford. Relying on someone else to help pay your mortgage is always a risk -- especially during times of high unemployment.
Buyers still need to show their lenders that they can handle the entire monthly payments, regardless of whether they plan to take on renters. But in some cases, rental income can help the homeowner save for renovations or it can just lighten the strain on the monthly budget. Dana Hollish Hill, an associate broker with Buyer's Edge in Bethesda, is working with prospective buyers looking at two price points: one if they just buy for themselves and another if they take on a tenant.
"It's a financial decision more than a decision on what would be preferable," she said.