Customary fees charged to all tenants as part of operating a rental property are generally permissible at Section 42 properties. In this article I will discuss the most common types of allowable fees. Many of the allowable fees discussed below are common practice and seem obvious to anyone that has worked at a rental property. The key to compliance is to ensure that these fees are properly structured and explained in your written management policies and to then consistently follow your own procedures.
Allowable Fee No. 1- Application fees
Application fees may be charged to cover the actual cost incurred to process a rental application. This includes the costs of checking criminal background, credit history, landlord references, etc. Per the 8823 Guide, “no amount may be charged in excess of the average expected out-of-pocket costs." IHCDA generally does not find problems with application fees, but does reserve the right to question the application fee charged if the amount seems unreasonable. If questioned, the owner/manager must be able to defend the fee by proving that it does in fact cover actual costs incurred. It is important to not confuse application fees with the fees incurred to obtain third-party income and asset verification documents. For example, if a bank charges a fee to complete third-party verification of a checking account, the owner cannot pass this fee on to the applicant or tenant.
Allowable Fee No. 2- Security deposits
Security deposits (sometimes referred to as damage deposits) may be charged upfront. The amount of the security deposit must be disclosed within the tenant’s lease. Neither Section 42 nor IHCDA provides any requirement or guidance on the amount of the security deposit and this amount is excluded from the gross rent calculation. When dealing with security deposits, there are two important compliance topics to consider:
- The deposit must be refundable and the full amount must be returned to the tenant upon move-out, unless damage to the unit is beyond expected wear and tear. If so, then the actual cost of making the repair(s) may be deducted from the security deposit. This requires documentation of the nature/extent of the damage and the cost incurred to repair the damage. Arbitrary or flat fees cannot be charged, rather the amount must be the actual amount spent on the repair(s). Furthermore, it is not permissible to hold back part of the security deposit as a redecorating or unit preparation fee. This is referred to as charging fees to prepare a unit to be suitable for occupancy and is strictly forbidden (see previous article for more details).
- The security deposit policy for a property must be in writing (preferably in the tenant selection plan) and must be enforced consistently in order to prevent actual or perceived discrimination. It is permissible to require applicants with worse credit history to pay a higher deposit, but if this policy is being enforced it must be part of the property’s written procedures and applied consistently. For example, management would need to determine and put into the written plan what credit rating triggers the higher deposit and the amount of the extra deposit.
Allowable Fee No. 3- Penalty fees
One-time payments for penalty fees, such as fees for late rental payments or for prematurely breaking a lease are allowable. The policy on these penalty fees should be established within the lease and enforced consistently so that the tenants understand how the fee structure works.
Allowable Fee No. 4- Damage fees
Fees can be charged when a tenant causes damage to the property (unit or common space), as long as this damage is correctly documented. This concept was introduced in the previous article and mentioned again in the security deposit section above, but is worth reiterating. The tenant is liable for charges for any damage caused to the unit above and beyond “normal wear and tear.” If a tenant is to be charged for damage two criteria must be met. First, the damage must be documented with photos and a written explanation, both of which will be maintained in the tenant file. Second, the fee charged cannot exceed the actual cost incurred by the owner to make the necessary repairs.
I will conclude this article in the same manner I concluded the previous article on prohibited fees. As is always the case in compliance, the key to correctly charging fees is practicing due diligence. The owner must document what fee was charged, why it was charged, and how much was charged. I should also note that in many ways Section 42 requirements are “hands-off” when it comes to management requirements and procedures. If your Section 42 property has other sources of funding, please ensure that your policies are also in compliance with those programs which may likely have stricter required management procedures.
Matt Rayburn is the Chief Real Estate Development Officer and Asset Management for IHCDA. He can be reached at 317-233-9564 or via e-mail at email@example.com.
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