As we enter into the final quarter of 2010, property owners are looking forward to a more profitable 2011. One of the keys to this goal will be to improve your process for underwriting prospective tenants for your properties. Your residential rental properties are a great investment, but only if you screen and chose your tenants wisely. Otherwise, your revenues and time will be eaten up by unpaid rent, evictions, property damage or unnecessary vacancies. Savvy property managers develop methods for finding and leasing to the best tenants and eliminate applicants that may look good to an untrained eye, but will be big trouble down the road. Here are 5 critical underwriting variables we use to evaluate all tenant applications:

1) The credit report

2) Criminal background check

3) References

4) Income verification

5) Unlawful detainer search

A few years ago, there were many renters with flawless records, who would have breezed through the underwriting process with flying colors. Times have changed and now property owners must make tough choices: whether to loosen their requirements and begin considering applicants with less than perfect histories, or risk having empty units for a very long period of time. Here are some insights that may be of help:

BANKRUPTCY — Property managers need to understand the overall financial squeeze that occurred in 2009-2010. Credit reports are confirming what many of us were already knew. According to Yardi, a rental software screening company, the number of bankruptcies has continued to increase since 2009. Just because a prospective tenant has experienced bankruptcy, they should not be automatically eliminated as candidates. It is wiser to properly evaluate these bankruptcy prospects and measure their performance since their bankruptcy. For instance, how long have they been employed at their current job? What is the ratio of their income to their projected monthly rent?

POOR CREDIT HISTORY — In the beginning of the 2010, Yardi also commented that almost 1/3 of all apartment applicants had thin or no credit history! This type of applicant used to be considered high risk. But in terms of lease performance, these applicants could perform equally as well as tenants with a moderate risk profile. For example, many applicants have medical judgments against them. These are individuals without medical insurance, who have been treated at an emergency ward, but have not paid their bill. We have seen very little relationship between lease performance and medical judgments on an applicant’s credit report.

STUDENTS — The industry has seen a minimal shift in the student housing market. On average, the students’ parents’ incomes have decreased, but the credit for these co-signers continues to be strong. Some owners have seen more job losses within the period of the lease, which certainly can have a negative impact on performance. Unfortunately no one can predict this sort of misfortune.

UNLAWFUL DETAINER — Unlike the factors above, this is one finding that will send up red flags during the underwriting process. An unlawful detainer indicates trouble with their landlord, and likely involves a history of non-payment or other disagreement, and implies they will do it again.

It is important to analyze and understand how tenants with various risk profiles are performing in order to make appropriate adjustments. For instance if you do decide to rent to a marginal tenant, it may be advisable to increase their deposit levels or to institute conditional acceptance policies. This kind of adjustment can bring in more revenue, while lowering the overall risk for landlords.

Proper leasing procedures are a lot of work at the start, but if the job is done well, you will likely get a great, long-term tenant who will save you lots of subsequent work, expense and aggravation later.