Questions Regarding Rent and Security Deposits
Is your property manager collecting all potential rent from your tenants? Do you run into cash flow issues when it is time to refund a security deposit? These are known issues for real estate portfolios utilizing property management companies for accounting. Whether your portfolio includes commercial, multifamily, or single-family residential properties, collecting rent every month and recording security deposits correctly keeps the property from falling into a cash flow shortage. The state of Texas also has strict rules regarding security deposits. I will detail how to avoid these pitfalls for rent and security deposits and how property managers should perform the monthly review.
Review the Rent Roll and Profit & Loss Statement
The rent roll report lists all tenants and monthly rent amounts. It shows the rent amounts due every month. It also includes the rent increases or escalations for upcoming renewals. If your property manager has abstracted the leases and set up each tenant’s lease correctly in the property accounting software, the rent roll summarizes all lease rental terms in one document. If your real estate portfolio has not scaled to enterprise property management software, the rent roll has to be documents in some other format.
Once the rent roll is set up, the amounts on the rent roll must be compared to the revenue amounts on the Income Statement. The revenue items vary based on each real estate portfolio type. All have rent but for example commercial real estate also includes recoveries for CAM, property tax, and insurance. If the monthly rent revenue general ledger account does not match the rent roll, any discrepancies must be noted by the property manager on the variance report. Valid reasons for the differences include the following:
- prorated rent for a new tenant
- prior period charges billed in the current month (these must be approved by the owner)
- rental concessions (the proper accounting is a separate general ledger account).
Any other discrepancies must be addressed by making sure the lease abstract is correct or checking the accounting system to determine whether the lease was entered correctly.
Security Deposits vs Bank Statement
In the state of Texas, security deposits are required to be kept in a separate bank account. The property manager has to perform a three-way matching to reconcile the security deposits balances are correct. Below are the three documents and reports the property manager should review every month.
- Security deposit bank statement
- General ledger account for security deposits
- Rent roll/lease deposit report
As discussed previously, the rent roll is the report created after the leases are abstracted. Security deposits are reflected on the rent roll. When the property manager records the actual security deposit paid by tenants, these are recorded in the security deposit general ledger account. The actual cash is then deposited in the bank account. When these accounts do not match up, it is usually because of the following reasons:
- The security deposit was not physically deposited in the correct bank account.
- In this case, the funds are comingled and creates a bigger problem. Now security deposits are being used to pay operating expenses. Tenant leases have strict deadlines for the refund of deposits and if the deposit funds are used for other purposes, the tenant can potentially take legal action.
- Sometimes the difference is just a timing issue. If a tenant moves out at the very end of the month, the lease deposit report will show an expired lease but the security deposit balance on the general ledger and bank statement will still show a lease because the move out refund is still in process.
- Another timing issue is when the tenant wires or pays the security deposit by ACH at the very end of the month prior to the lease starting. In this instance, the bank shows a deposit, but the rent roll and general ledger do not have anything recorded.
These timing differences should be explained in the financial reports provided by the property manager and need to be cleared up before the next report is issued. The security deposit into the incorrect bank account is a sign of an internal control issue and should be watched to determine if your property manager is handling your cash properly.
Need More Information?
My monthly review includes identifying these discrepancies. Your rent needs to be collected according to the lease and the reports need to be presented correctly for current investors, future owners, and lenders. If you would like to discuss any of the items above for your portfolio or have any questions regarding your Texas property management accounting, schedule a consultation below.