Owning a rental property can be a great way to produce steady income and grow your net worth. However, successful investment property owners understand that owning rental property is similar to managing a small business. Well-run businesses have financial reserves to protect themselves for unexpected expenses.
In our opinion, property owners should have an emergency fund, or “slush fund,” to cover unexpected repairs or expenses that may arise in the normal course of business.
Protecting Your Property and Income
I was curious about what owners should have as a healthy set-aside, so I interviewed Mrs. Lynne Sceili, owner of All Bay Property Management (ABPM) in Castro Valley, California. ABPM has been managing properties for over 30 years. Mrs. Sceili stated that $5,000–$10,000 was an appropriate amount, as well as an important one.
“When items such as sewer lines, heating and air-conditioning units, water heaters, etc., break down or need to be replaced, they must be repaired or replaced immediately. By delaying these repairs, not only do they create the potential of additional collateral damage to the home, but it’s a potential legal violation of your obligation as a landlord to your tenant,” Mrs. Sceili said.
Another great reason to have an appropriately funded emergency fund for your rental property is to cover the inevitable turnover of tenants. “Turnover” is the period when your former tenants have stopped paying rent and you are trying to re-rent the property. Having funds to cover this gap in income can be an important aspect of owning and managing rental property successfully and without unnecessary stress.
After a tenant moves out, landlords typically experience a period without steady rent, sometimes lasting from two to four weeks before they rent out the property again. In addition to lost rent, property turnover triggers additional costs to make the property “rent ready.” These costs typically include having the home professionally cleaned, walls painted or touched up, carpets shampooed, and other general repairs and upgrades after your tenants have vacated.
“Some owners don’t really understand how important it is to keep their properties maintained and up to date,” Mrs. Sceili said. “Having a slush fund allows a stress-free way to ensure that needed repairs are done in a timely and professional manner.
“We commonly see a big difference in the amount of rental revenue between owners who take pride in maintaining their rentals versus those who allow their properties to slowly deteriorate and who neglect the properties. Over time, they lose more money in lower rents and eventually start to attract more problematic tenants.
“We think that having a slush fund actually alleviates these conditions. Property owners living rent check to rent check are more inclined to let the property fall into disrepair.”
But what if you don’t have the money immediately?
You can set aside a portion of your rental income every month to build up a fund. Alternatively, if you want to keep your money invested, consider a line of credit to be used for only necessary repairs and maintenance, and then commit to paying off the credit as you receive rental income, while building up your reserve fund.
If your property is not profitable, consider selling or doing a 1031 tax-free exchange into a property that is profitable. Turning a money-losing rental home into a profitable one takes many years and/or a lot of money, most of which individual investors can’t afford.
Please don’t hesitate to call us if you have any questions!
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