Why Late Fees Don't Add Up For Landlords

Banks, car dealerships and credit card companies all charge a late fee whenever bills are paid past their due date. Landlords do too which is why these charges are included in the language of most rental agreements. The late fee acts as a negative incentive or "stick" to ensure the tenant pays the rent on time. Yet if it is truly your goal to have your rent payment in by the first and keep that person in a long term tenancy, using a late fee may be counterproductive to the success of your rental business. Relying on late fees to discipline a slow paying tenant is "lazy land lording" and is not effective in the long run. Moreover, the misuse or collection of late fees can put you in hot water with the courts if those fees are challenged by your tenant's Fair Housing attorney. A far better and more profitable alternative is putting preventatives in place to screen out late payers, using your notices properly and building good will between you and your tenant. 

To understand this argument, let's look at what a late fee really is.

The Late Fee is Really a Grace Fee

When imposing a late fee after so many days past due, you are creating the mistaken impression of a "grace period." If you're like most landlords, your lease probably contains the following clause:

"Tenant rent is due on the first of the month, and is considered late by the fifth for which a late fee will be charged."

What you are really telling the tenant is that although rent IS DUE on the first of the month, you are allowing them until the 5th or the 6th to get it in. What you really should be saying is this:

"Rent is due on the first and is considered late on the second as long as the tenant has one business day in which to pay the rent."

This informs your tenant that payment after the first is considered late, and you will use what remedies the law provides to enforce collection, period.

Use the Appropriate Notices Available To You

What is the best action to take if rent is not paid on time? Issuing a three day notice to pay or quit is far more effective than pleading or threatening your tenant to pay the rent. It works because it tells them you mean business. Whenever possible, submit your notice through personal service and go at a time when you know they should be home. Doing so will provide the chance to speak to the tenant and determine if the lack of payment was due to an unforeseen event (reduction in work hours, illness, or being out of town). Your tenant may even issue you payment right then. Leave the three day notice with them as a reminder. If they are not there, post it on the door and drop off the second copy in the mail.

Try to be consistent in your process for all late payers. Review a tenant's payment history first. If the renter is a long-term tenant and paying late is an infrequent occurrence, call first to find out what happened. Let them know the rent is late and you will be issuing notice the next business day. Often, the tenant will appreciate you called and may pay you the next day which will save you a trip. If this tenant has a proven payment record, you may wish to work out a payment plan, but do so at your discretion. If the tenant cannot stick to an agreed upon plan in writing (for example, you will accept this additional amount along with the regular rent until tenant has paid it in full), then issue the three day notice on the next business day the rent is late, along with a letter stating the former agreement was not held up by the tenant and no longer applies. If it is a new tenant who is late with the rent and has no payment history with you, issue the three day notice the next business day after rent is due. This sets the tone from the beginning that late rent will not be tolerated.

Avoid Late Rent by Screening out Habitual Late Payers

The best way to ensure rent payments will be paid on time is screening out late payers before they occupy your unit. This is a common mistake made by newbie and lazy landlords. Avoid this error by reading all of the applicant's credit report; review for 30-60-90 day late pays and be suspicious when these occur sporadically, such as every other month. If they occur in a single time period (within same month with previous monthly payments over the rest of the year were made on time, ask the applicant for an explanation. Perhaps it was due to job loss, a family emergency or some other event that can be documented.

Reward Tenants Who Pay On Time

According to the Sacramento Valley Rental Housing Association, the average lease turnover time in California is about 12-13 months. Tenant replacement fees along with vacancy costs average $2500 per year for a 2 bedroom, 2 bath rental unit. This is a big expense for any landlord. To continue making a profit on a rental, procuring long term tenancy should be the ultimate goal in everything you do as a property owner. Imposing a late fee to incite a tenant to pay the rent on time may be effective, but it often breeds ill will between the tenant and the landlord - this is true if the tenant (who was consistent in payments but was late one time) pays the rent and then neglects to pay the late fee. This puts the landlord in the uncomfortable position of asking for it or issuing a three day notice to perform covenants or quit. When the tenant lease is up, it is unlikely that tenant will want to renew and the landlord is stuck with a vacant unit - over a $35 uncollected late fee. Let's turn that on its head. What would happen if you rewarded those tenants who consistently paid rent on time, say thirty days prior to their lease end date? If you are fortunate enough to have such a tenant, write them a thank you letter and include a gift card to a nice restaurant (not McDonalds!) or a $100 grocery card. Assuming there was no pressing issue to relocate, do you think that tenant would stay and continue to rent from you? The pay early/on time reward of the carrot trumps the late fee stick. It also builds a solid business relationship between you and your tenant.

Know the Law for Late Fees in Your State

If you wish to keep the late fee clause in your lease agreements, be familiar with the laws in your state regarding late fees. For example, in California, imposing a late fee that is more than 6 percent of the gross rent is frowned upon by the courts. You cannot apply funds received to late fees before rent if the tenant marks "rent" on the check or money order. Most judges will not evict a tenant for nonpayment of late fees if rent payments have been made. If you try to deduct late fees from the security deposit, you are opening yourself up to a challenge in court. You'd be better off using the deposit to deduct for damages, cleaning costs, etc. If you insist on collection of late fees and a tenant challenges it, make sure you are prepared to show the court what administrative cost is for the delayed rent payment and how you arrived at that late fee charge. In addition, include in your lease that failure to pay the late fee is a material breach of the lease.

At end, the collection of late fees doesn't constitute a meaningful stream of income. Your time is better spent on thoroughly screening your applicants to weed out routine late payers, enforcing that your rent be paid on the date it is due with the remedies available to you and cultivating retention of your tenants.

If you have any comments on how and why you use late fees and how effective or ineffective they are for you, please share them!