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TOP FIVE PROBLEMS WITH SURETY BONDS

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Let’s face it: security deposits are a big headache for both apartment residents and operators alike.

For applicants – especially in this day of growing rents and stagnant incomes – it’s often not possible to pull together the funds necessary to make a big security deposit payment. And when a lease is over, residents are almost inevitably upset about the portion of their deposit that is returned to them. This in turn leads to bitterly angry online reviews that can lay waste to an operator’s reputation.

Security deposits also saddle apartment operators with the significant administrative costs and burdens associated with managing the deposits, issuing refund checks and handling reimbursement disputes. Another frequent pain point is the mismanagement of deposit pools mean to protect operators against lease skips, damages and bad debt. Furthermore, the inability of many applicants to pay for a security deposit means operators are losing out on prospects who would become high-quality residents.

In their quest to find an alternative to security deposits, many operators turn to surety bonds.

Surety bonds are a three-party system consisting typically of the resident, the property and the bond guarantor. The renter pays only a portion – typically 17.5 percent – of the total deposit amount at move-in as a non-refundable fee.

The bonds enable residents to save money up front and move into the apartment homes they really want. For operators, they can help expand the renter pool, leading to more conversions, higher occupancies and increased revenue.

But these instruments carry considerable drawbacks as well. Below are five of the biggest problems:

1. Residents don’t really understand them. In my experience, residents often have a fundamental misunderstanding of surety bonds. In short, they think they’re purchasing security deposit coverage when they’re not.

If the apartment community ultimately needs to make a claim against the resident for, say, damages at move-out, the bonding company pays the community up to the total deposit amount. The bonding company will then go to the resident for reimbursement of whatever amount it paid the operator; frequently, the resident is not expecting this expense.

2. They can easily lead to negative reviews. When residents are hit with these surprise expenses, they will take to the Internet. At sites like Google and Yelp, they can leave scorched-earth reviews that may scare off future prospects.

3. Surety bonds still require a co-signer. Finding a friend or family member who can guarantee a lease is often a major obstacle for prospects who are required to do so. Surety bonds don’t solve that problem.

4. Surety bond pools are often mismanaged. When an apartment community offers its residents surety bonds as a security deposit alternative, those funds go into a pool that the community can draw upon to cover rent losses and damages. The problem is that these pools are difficult to manage and often run out of money.

That’s because a community may allocate too a large portion of the pool to pay for, say, the damages to a handful of units caused by residents. This may leave little or no funds to cover subsequent rent losses or damages. When this happens, a community is forced to wait until more residents move in and replenish the pool with their surety bonds before it gets reimbursed for losses.

5. Waiting is the hardest part. When a community makes a claim against a resident, it can take up to 30 days for the bond company to reimburse the community. But during this wait, more residents may be moving out requiring more payments for turn costs and thus further putting a property in the hole.

So, are security bonds really working for your communities anymore?

Reichen Kuhl is CEO and one of the Founders of LeaseLock®, the only nationwide A-rated lease insurance program that replaces costly security deposits and surety bonds with lease insurance. 

Travis Watson