Q: Is a property manager's fee contingent on rent collection?
Do I have to pay a property manager his fee if the tenant didn’t pay his rent last month? Does it come off their deposit?
– San Francisco, California
The answer, of course, depends on the contract that you have in place with the property manager.
There are a few different ways you can skin that cat: Some contracts pay a set fee per month or per year flat rate. Some contracts pay a percentage of the lease value, whether or not the rent is collected.
The logic in these circumstances is that you still have an account receivable, which you can potentially sell to a collector or borrow against pending collection.
And other contracts, of course, make the property manager’s fee contingent upon actually collecting the rent. Defining the management fee in terms of percentage of gross rents collected is quite common, and California is no exception. Per the California Division of Real Estate:
Management fees can either be a flat amount per month, a percentage of the gross rents collected, or a combination of the two. Managers usually base their fees on a percentage of the gross rents collected. This may vary from 3 percent on large structures to as high as 20 percent on individual houses or small buildings. In some resort areas with higher turnover rates and short terms of occupancy, as much as 50 percent of the gross rent is charged as a fee for renting a property. In addition to the fees collected on rentals, the property manager frequently receives compensation for the renewal of leases and for supervising major repairs or renovations.
In this case, if your contract states your property management fee is purely a matter of gross rent collected, you are not contractually obligated to pay them anything. If your property management fee is a hybrid of a flat rate and a percentage of rent collected, you will likely have to pay them something, but not the full amount.
Consider The Scope of Engagement
Different arrangements make sense under different circumstances, and a lot of it depends on the scope of engagement you have with the property manager. For example, a contract that makes paying the property manager’s fee contingent on actually collecting rent makes a good deal of sense if the property manager is exclusively handling tenant screening and helps to set financial criteria and you as the landlord aren’t overruling them.
That way, your interests are aligned: The property manager has a vested interest in not renting to a deadbeat. If they picked the tenant, then they get to own the consequences of picking the wrong tenant right along with you!
Sure, you might like to rent your property to your favorite nephew whose punk band likes to rehearse in his garage. But it’s not fair for the property manager to have to go without their fee if you overruled their recommendation to rent to the nice young couple with the two steady incomes to keep the place free for your young bass-thumping relative.
Meanwhile, your property manager still has to put in the time and man-hours in attempting to collect the rent from the deadbeat tenant that you picked for them, as well as put in all the effort it takes to keep the property maintained and in a livable condition.
Furthermore, you are still receiving the benefit of the property manager’s errors and omissions insurance and liability insurance policies. They are still paying premiums on this coverage whether they collect the rent or not – and you are still benefiting from that protection.
These are the reasons some contracts do not make payment to property managers wholly contingent on rent collection. The bottom line is that whatever fee structure you agree on should accomplish the following:
- Reflect the scope of engagement
- Provide for mutual profitability
- Align property manager and owner incentives
- Not create any perverse incentives
- Be flexible enough to be sustainable even if things are going wrong.
The fact is, even the best screening doesn’t prevent all late payment problems. People get sick, lose jobs they thought were secure, become crime victims, or go through all manner of unforeseeable personal crises that no screening could have anticipated. You don’t want to lose a great property manager over something like that.
In your case, your contract should specify what payments are due when. But if you like the property manager, you may have the wrong fee structure in place. Perhaps you would both do better with a fixed payment in place to account for the fixed costs of managing the property and an incentive in place to facilitate collections. In other words, a hybrid fixed and contingent plan.
Remember that if you have a tenant who is having trouble paying the rent, you may still need a property manager to help you handle the notification and eviction process, prepping the unit for a new tenant, and help with marketing and leasing to the new tenants. Now may not be the time you want to switch horses!
If you’ve got a good property management firm and you just have an issue with a tenant, you might want to renegotiate the management fee to a structure that makes more sense given the scope of work and the managers’ monthly responsibilities and services over and above rent collection.
If it’s time for the manager to go, though, take a good hard look at the termination provisions in the contract. Few companies do property management on a month-to-month basis. You may have to pay an early termination fee.
