Transcript:
Being a rental home investor means being in the business of rental houses. And one of the challenges that a lot of rental home investors have is they don’t budget, they don’t forecast ahead of time. They just assume that my rent is X, my monthly mortgage payment is Y, and the difference in between is going to be my profit. And that just isn’t the case. There’s going to be maintenance and repair. There are going to be times when the property is empty and not collecting rent and a lot more.
One of the problems that rental home investors run into often is even if you do forecast losses due to vacancy and delinquency, if you forecast maintenance and repair expenses and things of that nature, your forecast tends to look like a flat line. Unfortunately, what really happens is that those events, those financial exposures, are going to happen in spikes.
What will happen is that your forecast may be accurate related to, “I expect to lose about 5% of my income due to bad debt or vacancy. I expect to spend about $3,500 per year for maintenance and repair.” But over a period of time, what will happen is you spend zero for maintenance and repair, and then a tenant moves out and all of your vacancy hits at once. At the same time, you might have a $5,000 to $10,000 turnkey expense. So over the course of five or 10 years, your averages might work out very well, but what happens is the rental home investor is not prepared for that spike where you have no income and large expenses.
The easiest way to handle that is to have a separate bank account for your rental properties. All of your rents will go into there, your mortgage payments come out of there, and you may even need to set up a reserve, meaning that every month out of your personal account, you’re going to put money into your rental home account so that you build up a cash reserve. And that way, when something happens—and often these things are not on your calendar—when the roof starts leaking and it’s old and it has to be replaced, when your air conditioner or furnace dies and there’s no repair, it needs to be replaced. When your tenant moves out and the turnkey needs to happen at the same time that you’re sitting empty, all of these things are very manageable if the money that you need is already set aside.
And where this runs into a problem is with a lot of rental home investors, they collect the rent, it goes into their personal account. They make their mortgage payment out of their personal account and the money that’s left over just kind of disappears with all of their other income. And they spend it going out to dinner or more, they spend it going on vacation, they spend it on other things like that. It just plain is invisible to them. And then when one of these events happens, like a major repair or a turnover, then they don’t have the cash available to take care of it, and all of a sudden they’re in a big financial crunch.
So if you’re owning rental houses and you don’t have a separate bank account set up, then start with that. And in addition to setting up the bank account, you ought to set up a budget or a forecast. This is how much rent we’re expecting. I expect to lose some of that over some period of time due to vacancy and bad debt. Tenants do go bad. I expect to spend money on maintenance and repair of this amount, which is going to vary depending on the age and the quality of your house, and have all of that figured out so that when these things happen, you’re not surprised.
I’ve owned and managed rental houses for over 40 years and my houses have always performed really well. But when the spikes hit, it’s because we had cash set aside that we were able to handle those events without any interruption to our personal household finances, and it’s made it a very profitable venture for us. It could be the same for you as long as you have accounted for those spikes.