Before you decide whether to become a landlord, skills in estimating the cash flow and operating expenses are critical.
Analyze the local market and estimate the rental income potential of a property to decide whether a specific property is a good deal. Not doing an analysis can be a fatal financial mistake.
To get an accurate picture of profitability, landowners must inspect the potential cash flow of the property after netting out all critical operating expenses rental property requires running efficiently. But this is no straightforward task!
Keep reading and get an idea of how to estimate these operating expenses.
Evaluating the cash flow potential of a rental property is crucial in estimating expenses’ value. However, many landowners cannot anticipate the expenses that come with running rental properties. Others experience negative cash flow after pulling all expenses.
Avoid such scenarios by doing your due diligence and thoroughly assessing the potential rental property expenses deductions. A methodical approach may include the following steps:
Identification Of Initial Improvements And Repairs
An excellent place to start is an appraisal of what your property needs doing. But keep in mind that there may be a few unforeseen or ongoing repairs to be made in the future.
Consult Property Managers
Local property management companies will be happy to offer advice and tips, hoping you hire them. Let them know you are interested in buying rental property in the area and would like their insights about some common location-specific expenses.
Find out the typical charges for services such as garbage collection, gas, electricity, and water.
Identify Your Fixed Expenses
These are expenses that occur regularly. However, such expenses may fluctuate, but they are cash outflows that occur repeatedly. Examples include electricity and gas, sewer and water, insurance, and property management fees.
Identify Your Variable Expenses
These expenses do not have a specific frequency or price tag. They are some of the trickiest expenses to expect but should not be ignored. Examples include unexpected repairs, cost of vacancies, repaving the driveway, and even roof replacement. A season landowner puts aside a percentage of the monthly income to save up for these variable expenses and capital expenditures.
Annually, millions of landowners are paying more taxes on their rental income than they have to. This is because they don’t take advantage of tax deductions available to rental property owners. The rental estate provides more tax benefits compared to just about any other investment.
These benefits are the difference between earning a profit and losing money on your rental property. According to the IRS, some common tax deductions available for small residential rental property owners include:
Rental property depreciation
The property’s actual cost is not fully deductible during the year you pay for it. Instead, you can reduce the cost of depreciation, which involves deducting part of the property cost over a few years.
Cost Of Repairs
A full rental property expenses list should include repairs. However, only repairs that are reasonable in amount, necessary, and ordinary can be deducted in the year they occur. For example, fixing gutters, replacing broken windows, plastering, and repainting.
When you drive to the hardware store to buy a repair part or to your rental property to deal with tenant complaints, you can deduct these travel expenses. But you cannot add travel expenses associated with improving the property—add these to the tax basis of the property and depreciate over several years.
Whenever you hire employees and independent contractors for the rental activity, you can deduct the wages as a rental business expense.
Deduct premiums you are paying for any insurance on your rental property. This includes flood, theft, fire, and landlord liability insurance. Deduct the cost of health and workers’ compensation insurance if you have employees.
Professional And Legal Fees
Deduct payments you make to property management companies, attorneys, real estate advisors, accountants, and other professionals. These expenses can be marked as operating expenses as long as the services are associated with your rental activity.
It’s natural to feel overwhelmed once you discover the number of expenses associated with owning and managing a rental property. So, seriously think about operating expenses rental property ownership incurs.
Some of the operating expenses rental property owners deal with include maintenance.
Maintaining the quality appearance, functionality, and safety of your property is critical. Under these operating expenses is valuing the maintenance fees. Create and stick to a rental property maintenance checklist to streamline the evaluation process and prevent expensive oversight.
The checklist also provides a point of reference to ensure your property is well-maintained for tenants. To get you started, here are some items you can include in the checklist:
- Walls and doorways
- carpets and flooring
- Curtains, blinds, and windows
- Plumbing and sinks
- Crawl spaces and attics
- Fencing, drains, gutters, and the roof
While examining these items, see whether they are functional and safe. Also inspect for signs of problems such as infestations, mildew, and mold that can trigger larger concerns in the future.
Catching the smallest issues early and addressing them fast can prevent catastrophes down the line. Plus, you ensure tenants are satisfied with the accommodation and reduce vacancy rates, which can affect your profitability.
Tenants are financially liable for damages they incur themselves. The owner handles general tear and wear issues and debugging to prevent future catastrophes.
The average expense ratio rental property owners set aside for common repairs is 1 percent of the property value annually. This money is handy for dealing with repairs such as:
- Malfunctioning appliances
- Lack of hot water
- Garbage disposal
- Water leaks and damage
- Bugs and pests
- Clogged or running toilets
Rental property investing is no small feat and should not be considered lightly. Several expenses are associated with ensuring a property is well-maintained, and they can constrain your cash flow. By learning about these operating expenses rental property investors gain the indispensable skill of identifying income property that promises to boost the bottom line.
Would you like more tips on how to invest in the real estate industry? Check our blog and become a better investor today!