Rental property owners know that maintenance is just part of the deal. Things break, wear out, or need to be updated. Because … it’s a house.

BUT many owners, especially mom-and-pop investors, grossly underestimate the projected cost of maintenance and repairs.

They buy a property, thinking they’ll spend $500, maybe a thousand a year on maintenance, then get hit with a $2,000 HVAC repair in month three. I’ve seen this happen too often, and it typically stems from one common problem. …

Cash Flow Tunnel Vision

Inexperienced rental investors focus too much on just cash flow.

Will the rent cover my monthly mortgage payment?

And that tunnel vision approach gets people in trouble REAL fast.

One of our clients is dealing with this pain right now. They bought a rental home about a year ago and hired us to manage it for them. The home was older but had been renovated and many of the systems were newly replaced.

Shortly after the new renters moved in, we got our first repair request for a dishwasher issue. The next month, there was a bug issue not caused by the residents. Two months later, an issue with the irrigation system. The owner was frustrated because they expected fewer repairs. Today, he’s getting out. The property is for sale. Even though it’s a sound long-term investment.

This is not a case of excessive maintenance costs. This is a case of misplaced expectations of the property owner. But it’s important that investors understand what to expect when it comes to repairs and maintenance, and why it’s so important to be on top of that issue.

Money Issues and People Impacts

Successful rental property investing isn’t just about sitting back and collecting rent. There are 2 major considerations to address:

1. When you have a rental property, you are running a business, and businesses have income and expenses that you must plan for, in advance.
2. And no less important, you are partially responsible for someone else’s shelter. It may be your house, but it’s Their HOME.

So the stakes are high, and you must get it right. Because if you mess it up, it will be very expensive, and it could even involve legal problems.

Business Operations

Like your rental property, your business must have a solid foundation to be stable and long-lasting.

Your home’s foundation is typically concrete, resting on granite. Your business foundation is your exit strategy, your financial wherewithal, and most importantly, your expectations. And it all starts with understanding how you earn with rental properties.

We call it Profit+, the wealth-building framework that explains 5 profit centers that drive all rental properties.

The 5 Profit Centers include:

• Monthly Cash Flow
• Value Appreciation
• Mortgage Paydown
• Tax Benefits
• Hedge Against Inflation

Notice that CASH FLOW, the money left over every month after the bills are paid, is only one of the profit centers. And focusing only on one factor is kind of like building your new home on the sand. Not stable and subject to the tidal changes.

People Operations

Happy residents directly impact your profitability. And nothing keeps residents happier than quick, professional responses to maintenance issues.

When things break, they must be fixed. Fast. Like it or not, people’s expectations have changed. You can order something on Amazon in the morning and have it delivered before the nightly news airs. If you’re not responsive to your residents’ repair requests, they will move out. And vacancy will kill your profit.

If you do not budget properly, big repair costs could be delayed as you burn time sourcing funds, looking for someone to do it cheaper, or just worrying and waiting. That will come back to haunt you with increased vacancy or unhappy, now-uncooperative, residents.

So, here are the Three Rules to budget for maintenance and repairs. …

Repair Budget Methods

Here are three methods to help determine how much you should set aside and expect to spend annually for routine repairs and maintenance on your home.

The 1 percent Rule

For every $100,000 your property is worth, budget $1,000 per year for maintenance. So a $400,000 Riverside rental? Plan for $4,000 annually to cover routine maintenance and smaller repairs.

The Age Factor Rule

The age of your property determines your prospective budget:

• Properties under 5 years old: Expect 2 percent of the gross scheduled rent for repairs and maintenance.
• For Properties 5 to 10 years old: 6 percent to 9 percent of rent
• 11-20 years old: 10 percent to 12 percent
• 21-30 years old: 13 percent to 15 percent
• More than 30 years old: 16 percent to 20 percent.

So if you’re collecting $2,800 a month on your 15-year-old property, your scheduled annual rent is $33,600. You should set aside and expect to spend $3,360 to $4,032 per year on repairs and maintenance.

For some, that might sound high, but it’s actually pretty tame. Broken down, that’s just $280 to $336 per month. One service call easily eclipses $300 today.

The Size Rule

Budget $2 per square foot annually for repairs and maintenance.

In this case, an 1,800-square-foot home would need a $3,600 budget.

All three of these rules are for normal maintenance and repairs. Examples might include:

• HVAC service and repairs, like bad capacitors or low freon
• Plumbing issues, like leaking faucets or pipes.
• Electrical problems, like bad outlets or fixture replacements
• Appliance maintenance and replacement
• Routine general maintenance and minor repairs
• And landscaping maintenance

Here’s what’s NOT Included in These Numbers:

• Major capital improvements such as a new roof or a complete HVAC system
• Upgrades that add value, such as adding on a covered patio or renovating an outdated bathroom
• Resident-caused damage. Although those costs typically are passed along to the resident, the owner still will be out of pocket until reimbursed, if ever.
• Regular monthly expenses such as utilities, insurance, taxes, or property management fees

These costs vary significantly, based on property age or if there is more deferred maintenance. We recommend having a “cap-ex” reserve separate from your maintenance budget, and we’ll talk more about that later in this video.

Inland Empire Special Conditions

Also, in the Inland Empire, which has a desert climate and is in, you know, California, we have some special considerations that unfortunately increase maintenance costs:

• It’s hot here, so HVAC systems work harder and need more maintenance
• Pool equipment runs longer during the summer and needs more frequent filter and equipment maintenance
• Landscape irrigation runs longer and more often, with prevalent hard water.
• Intense sun exposure is harder on paint and home exterior materials
• And the cost of living here makes labor and material costs higher than national averages.

So resist the urge to under-fund your maintenance and repair budget. Intentional investors don’t just pick one of the rules, they look at all three and choose the highest number. Why? Because it’s better to over-save and be prepared for a big-ticket item than to under-budget and stress about every repair call.

Repairs and the Profit Centers

Proper maintenance budgeting isn’t just an expense, it’s an investment in the property, in the business, and it has a return on investment in the form of lower costs overall. Here’s how properly budgeting impacts the 5 profit centers:

Cash Flow: Preventive maintenance and attacking repairs early reduces repair costs and improves cash flow. It also reduces vacancy because happy residents stay put. Did you know that the average prep costs and loss of rent to make a home rent-ready for a new resident is $5,000 to $10,000, best-case scenario?

Appreciation: Well-maintained properties appreciate faster than neglected ones. That means they can be sold or refinanced at a higher assessed value.

Mortgage Paydown: Consistent rental income from happy residents chips away every month at the property debt.

Tax Benefits: Maintenance and repair expenses typically are fully deductible (check with your tax adviser for your specific situation).

Inflation Hedge: Over time, inflation eats away at the value of your dollars. And so it takes more dollars to pay for a repair. If you have fewer repairs, because you maintain the property, you end up spending less in the long run.

If you’d like more details on the Profit+ program and the 5 profit centers, check out our previous video HERE.

The Ready Reserve Strategy

There is a difference between budgeting for an expense and having the funds in reserve to cover those expenses. You don’t want to be in a position where you budgeted for $400 but had costs of $1,000, without the money in the bank already. That’s where the last layer of your rental business foundation comes into play — the Ready Reserve Strategy.

With Ready Reserve, you have three bank accounts:

• Op-Ex: The first is your operating expense account. This is where your monthly income and expenses flow in to and out of.
• Rep-Ex: Your repair expense reserve account is where you keep the total amount of your annual repair budget. If you budgeted $5,250 for the year, that’s how much you keep in this account, and you don’t touch it for anything but repairs.
• Cap-Ex: Lastly is your capital improvement reserve account. This is for big-ticket items such as a new roof or HVAC replacement. This balance should vary based on the age and condition of the home. But in general, the older it is, the more it should keep. The more deferred maintenance, the bigger the reserve you should have.
  We recommend keeping at least 6 months of your total property expenses in this account. For example: If your mortgage, insurance, taxes, and budgeted expenses are 2,500 per month, you put $15,000 in this account, and it sits there waiting for the worst-case scenario, like a security blanket.

As you use funds from your Rep-Ex and Cap-Ex accounts, you then use your monthly repair budget to reimburse those balances over time. And each year, you reassess the Rep-Ex and Cap-Ex balances to adjust for budget or value changes.

Acting Like an Intentional Investor

This is what separates accidental landlords from intentional investors. It’s the difference between stress-free rental investment and owners who are forced to fire-sell a property at a loss.

It’s smart, lucrative investing because it provides peace of mind and ensures your business can continue to operate during a crisis. It doesn’t mean that you won’t have expenses. It just means you’ll be prepared when those expense hit. And they will hit.

Rental property investment is THE sure-fire way to build wealth, to go from financial zero to hero. And when you have realistic expectations about maintenance costs and proper reserves in place, you insulate yourself and your property from higher costs and lower profitability.

It’s the formula that equips you to scale your portfolio. Just lather, rinse and repeat.

Need Help?

Want help creating a customized maintenance budget using the Profit+ and Ready Reserve strategies? Call me directly at 951-314-5402 and we can set up a quick consult.