What are the Pros and Cons of Rental Insurance in South Africa [What is the Solution]?
The current residential leasing market in the Johannesburg area is softer than I have seen it in the last 20 years. Perhaps it is time to buy rental insurance in South Africa?
In recent years the banks eased up on bond finance and some very astute developers have rose to the occasion and started pushing out developments. And that was before the Covid 19 induced crises that has hit every sector of our economy.
Much like a Highveld storm, these factors combined to cause localised flooding of the rental markets in the prime buy to let areas. For example, Fourways and Midrand which both have tremendous buy to let potential for the next 30 years and more, are currently suffering from a temporary glut of rental properties and vacancies are much higher than usual.
And we all know that both non-paying tenants and vacancies are EXPENSIVE!
Please note that this article is dealing with rental insurance in South Africa and not building insurance, which is generally the Body Corporate's responsibility in a sectional title scheme.
Is this the time to seek rental insurance?
I have investigated many of the current products out there that are available to us landlords and I am not convinced that the advantages outweigh the disadvantages.
Typically these products cover rental for 3 months in the case of a tenant not paying, legal costs up to a certain amount, typically R 30 000 – R 50 000, and some malicious property damage. All at a cost of around 5% of the monthly rental. While this looks very attractive at first glance, it has it’s serious downside.
The main problems I associate with rental insurance are:
1 Unnecessary vacancies
These insurance products require that all tenants are subjected to a very onerous tenant application and vetting process, which scares of many perfectly suitable tenants (a ten page application is not uncommon). This adds a stumbling block to your chances of securing new tenants in today’s tight rental market where developers and landlords are incentivising tenants with reduced deposits, rent free periods and soft rentals.
Your prospective tenant when faced with the insurance tenant application simply chooses one of the many other properties available to him - and your property remains vacant.
2 The aggressive legal processes
If your tenant is late with rental payments, and you lodge a claim, the insurance company springs into legal action against your tenant. While you don’t pay the first R 30 000 – R 50 000 in legal fees, your tenant gets sued for the fees generated by the process.
So, your financially stretched tenant who may have come right given the right counselling and credit score motivation, now faces legal costs in addition to his rental arrears.
I am willing to guarantee that, if such a tenant manages to dig himself out of the financial hole and pay all the legal costs plus your overdue rent, he will immediately invoke his CPA right to cancel the lease contract giving 20 days’ notice. This then leaves you with a “normal vacancy” which is not insurable!
3 Desperate tenants
Desperate tenants faced with rental arrears plus legal costs, may well decide to take their chances in court and fight the case. In every case that I have seen, the tenant stops paying rental altogether when the summons arrives. Anyone who has walked the tenant litigation road knows that R30 000 in legal fees doesn’t go very far. With the court backlog in South Africa, you may well wait 3 – 6 months to have your case resolved in court (but only have 3 months of rental cover).
The question you must ask is how likely are you to find yourself in a situation, three months down the road with a non-paying tenant and having exhausted your rental and legal insurance. You now must finish the expensive legal battle at your cost!
And once you manage to secure an eviction, the arduous insurance compliant tenant sourcing and selection process can start again.
The laws of South Africa protect the rights of the tenant, even when they don’t pay the rent! Does this mean that all is lost and we have to give up the awesome investment opportunity that residential buy to let investment offers?
Absolutely not, the answer lies is a multi-pronged approach to property management.
It starts with careful tenant vetting which includes a comprehensive credit and affordability check and thereafter tight credit control.
- Tenants paying more than R 6000 per month in rental are typically very aware of their credit rating, which gives landlords with an ability to blacklist tenants a powerful credit control weapon.
- Body Corporates frequently co-operate to make delinquent tenants uncomfortable, such as stopping of access remotes, disruption in visitor access, and even the disruption of electricity supply (although this can be illegal).
- And then there are the very effective “ways and means” methods employed by some landlords to motivate tenants to either pay up or move out.
All that glitters is not gold
In summary I believe that with rental insurance, all that glitters in not gold. The insurance products may well look like the solution to secure your cashflow, but they come with the risks of extra vacancy and legal costs. Both of which are relatively easily avoided by effective property management.
In the 20 years that I have actively managed property (my own and my client’s properties) we have only found it necessary to follow the full legal process all the way to eviction twice! On a handful of occasions, we have initiated legal proceedings as a final straw, and then used the process to motivate the delinquent tenants to either vacate quickly or pay up.
In my opinion, the cons currently far outweigh the pros and I therefore believe that taking out rental insurance for residential property would be a mistake at the moment.
I will continue to keep a lookout, and if I find an insurance product where the pros outweigh the cons, I will be sure to write about it and inform our club members.