Landlord Security Deposit Mistakes: Costly Errors to Avoid (2024)

The Big Picture On The Common and Costly Mistakes Landlords Make With Security Deposits

• Protect yourself from tenant disputes by meticulously documenting the property’s condition during move-in and move-out inspections.
• Keeping security deposits in a separate, interest-bearing account, as required by law, ensures compliance and avoids financial complications.
• You can avoid legal penalties by strictly following your state’s deadlines for returning security deposits and providing itemized deduction statements to tenants.

The information provided on this website is for general informational purposes only and should not be construed as legal, financial, or investment advice.

Always consult a licensed real estate consultant and/or financial advisor about your investment decisions.

Real estate investing involves risks; past performance does not indicate future results. We make no representations or warranties about the accuracy or reliability of the information provided.

Our articles may have affiliate links. If you click on an affiliate link, the affiliate may compensate our website at no cost to you. You can view our Privacy Policy here for more information.

How much security do security deposits actually provide?

Security deposits are only as effective as landlords’ policies regarding them. But most mom-and-pop landlords learn the hard way that security deposit mistakes are among the costliest they can make.

Sure, most landlords know there are state-specific limits on what they can collect as a security deposit (see our state landlord-tenant law summaries). But that’s about the extent to which most landlords think about their security deposits.

So, what do landlords get wrong with their security deposit policies? Here are five common landlord security deposit mistakes… and some actionable tips for better results.

Mistake #1: Assuming the Security Deposit Will Protect You

Security deposits protect against exactly one thing: minor tenant damage to the property. They don’t protect against major damage (anything costing more than the deposit collected), “normal wear and tear” (which often requires $4,000-6,000 in fresh paint jobs and new carpets), rent defaults (the eviction process can take as long as 5-9 months), or lawsuits.

So what can landlords do to protect against those costs and risks?

First and foremost, landlords should aggressively screen all rental applicants to avoid landlord security deposit mistakes down the road. We have entire articles devoted to tenant screening, but start with running tenant credit reports, criminal background checks, and nationwide eviction reports. Call each applicant’s employer to verify income and future employment prospects. Call current and prior landlords to verify rent payment history.

Beyond tenant screening, sign a thorough, protective lease agreement. It must be state-specific and comply with all state requirements (including required lease clauses and disclosures). But it should also include clauses that protect your property against damage (such as these lesser-known lease clauses to protect you as a landlord.)

Once the renters move in, conduct semiannual inspections of the leased unit. If you don’t like how the renters treat your property, start by sending lease violation notices. If they keep up the bad behavior, you can either start the eviction process or non-renew the lease agreement with them when the end of the lease term approaches.

Essential Landlord Insurance Policies to Consider

While we’re at it, landlords should consider insurance policies for added layers of protection. Below are some of the common ones. Note, however, that coverage varies from one insurer to another.

Mistake #2: Failing to Do Move-In & Move-Out Condition Inspections

Another common landlord security deposit mistake is failing to record the property’s condition. Hear me out: if you didn’t document the condition when the tenant moved in and the subsequent condition when they moved out, how can you prove what damage the tenant caused?

You can’t. When they object to you deducting money from the security deposit to cover their damage, the renter can simply say, “That damage was there when I moved in.”

Use a Move-In/Move-Out Condition Report and walk through the property in person with the renter both at move-in and move-out. Write out every damaged item, every scar, and every scuff. Initial each line and have the renter do the same. Photograph each item with a timestamp, and store both the signed document and the photos on our landlord app to track each unit’s status.

Keep both hard copies and digital files – losing either one is too easy, and we’re talking about assets worth hundreds of thousands of dollars here!

If you ever need to defend your security deposit deductions to a judge, you’ll have ironclad proof of what damage was pre-existing and what was caused by the renter.

If, for some urgent reason, you or your leasing agent can’t walk through the property with the renter in person, include a provision in the lease that the tenant must sign and return a condition report within an allotted time. Go one step further and specify that if the tenant fails to return the report, the rental is received as satisfactory.

(article continuous below)

Real estate investments? Awesome. Being a landlord? Less fun.

Learn how to earn 15-30% on passive real estate investments in one free class.

Mistake #3: Failing to Hold Security Deposits in a Separate, Interest-bearing Account

Many states require landlords to hold each security deposit in its own separate, interest-bearing bank account. Even if your state doesn’t require this, do it anyway.

It makes your accounting easier. But more importantly, it prevents any temptation to spend the security deposit. You’d be amazed how often landlords commingle their tenants’ security deposits with other funds, spend the money, and then scramble to come up with the cash when the tenant moves out.

And if the security deposit earns interest, and you don’t have to hand that interest over to the renter, it’s found money!

Mistake #4: Improperly Keeping Deposits for Early Lease Termination

Every experienced landlord probably understands how tenants pulling the plug on their lease early can throw them for a loop. The temptation to hold onto that security deposit as a quick fix is real—due to the hassle and potential money loss.

However, one of the most common landlord security deposit mistakes is keeping the money without adhering to regulations, which could result in legal trouble. State-specific laws, such as the California Civil Code Section 1950.5, mandate landlords to handle security deposits similarly, whether tenants stick themout or bail early.

If they want to recoup costs from a broken lease, like missed rent or the tab for finding new tenants, they’d need to take it to court and get a judgment in their favor. It is an absolute nightmare from the landlord’s end, but sticking to the rules helps you avoid legal headaches and ensure you’re on solid grounds.

Mistake #5: Missing Security Deposit Deadlines

Every state has its own rules on how and when landlords must refund vacating tenants’ security deposits. Or, as the case may be, providing a written breakdown of deductions.

In most states, however, if the landlord misses the deadline to provide a written breakdown of deductions, they lose all rights to deduct any costs from the security deposit. They must immediately fully refund the deposit or deal with nasty fines and penalties.

Do not pass Go, and do not collect $200.

Your rental investing business is a business. You need to operate as such because you’re under strict deadlines. Missing them will cost you dearly.

Want to compare investment property loans?

What short-term fix-and-flip loan options are available nowadays?

How about long-term rental property loans?

We compare several buy-and-rehab lenders and several long-term landlord loans on LTV, interest rates, closing costs, income requirements and more.

Mistake #6: Taking Extra for Normal Wear and Tear

I can’t overstate how important it is for landlords to understand how much they need to take from a tenant’s security deposit. Overcharging can lead to a whole heap of troubles.

Landlord security deposit mistakes, such as mixing normal wear and tear with actual damage, are very common. We already know what “normal wear and tear” is, right? On the other hand, actual damages might include loads of holes, massive stains, busted fixtures, etc.

Now, overcharging tenants for simple wear and tear can spark arguments and even legal situations. If a tenant decides to take the issue to small claims court and wins, the landlord might be required to pay for the wrongly withheld amount plus extra penalties, depending on the specific state laws.

To avoid all these headaches, the best thing to do is document everything thoroughly and charge only for real damages. Again, keep detailed records and take before-and-after photos to be ready to justify any deductions.

Mistake #7: Deducting Your Labor Expenses Without Documentation

Landlords get into a fuzzy gray area of the law when they do the repairs themselves after a renter moves out, and they deduct from the security deposit to pay themselves.

If you do this, ensure you cross every T and dot every I. Keep detailed records of your hours worked and receipts for all materials. Charge an hourly rate comparable to other providers for this type of work.

If your ex-renters take you to court over the deductions, be prepared with four types of evidence: proof of the damage itself, proof that the renters caused it, proof that the time it took you to repair it was typical of industry standards, and proof that your hourly rate was typical of industry standards.

The burden of proof lies squarely on your shoulders to defend your legitimate labor deductions.

Are There More Landlord Security Deposit Mistakes To Avoid?

Here are a few more tips for success in protecting yourself, your property, and your returns:

• If you allow pets, charge higher rent (“pet rent”) and a pet deposit for each pet. Pets cause extra wear and tear and damage to your rental property. There are good reasons to accept renters with pets, but you must also protect your property. Landlord security deposit mistakes often include not understanding state restrictions on deposits. In most states, pet deposits are lumped in with other security deposit restrictions – if your state limits security deposits to 1.5 month’s rent, you can’t charge one month’s rent for the security deposit plus one month’s rent for the pet deposit.

• If you’re thinking of accepting a higher-risk renter, collect a higher security deposit if you can. If you’re considering taking a risk on a rental applicant with patchy credit or housing history, collect the maximum amount allowed by law in your state. You might also consider requiring a co-signer for the lease agreement and/or automated rent collection.

• Know the difference between damage and “normal wear and tear.” Generally, damage is caused by a single incident, while “normal wear and tear” is caused by repeated use of a lived-in space. Your mission should be to minimize normal wear and tear, too. How? Lucky for you, we have an entire article devoted to tenant-proofing your rental property!

What security deposit mistakes have you made? Do you have any gnarly stories to share to help other landlords avoid the same mistakes? Don’t be embarrassed—I’ve made plenty of my own mistakes!

Keep Becoming a Better Landlord:

How to Increase Rents Without Losing Tenants (PLUS: Free Raise the Rent Letter)

How to Calculate Rental Property Cash Flow: Know Your ROI Before Investing

Housing Market Corrections: The Real Estate Investor’s Ultimate Guide to Downturns