A rental property is a significant investment and way for you to build long-term, sustainable wealth. However, like with most things, you have to spend money to make money. As any long-time rental owner can tell you, it’s not as easy as just buying a property, getting a renter, and then walking away. Owning a rental property means caring for—and paying for—its maintenance and upkeep needs, or hiring a property management company to do this for you. In this article, we’ll review how you can go about budgeting for your rental property’s care and why it makes sense to build up a savings account for significant projects.
The general rule—and its limitations
Just how much should you save for your property’s upkeep? Most experts recommend that property owners set aside between 1-2% of the property’s value annually to cover needed maintenance and repairs. If your property is worth $200,000, this equates to saving between $2,000 and $4,000 per year.
While this is a useful starting point for thinking about your property’s upkeep costs, it’s not a perfect measurement. The market value of your property may be divorced from the reality of its maintenance and repair needs: if you own a single-family home in a hot real estate market, you could be saving too much compared to a condo owner in a cooler one. Older homes generally need more care than newer ones—something that the “1-2%” rule doesn’t really address. It also goes without saying that some degree of your property’s upkeep costs is individual to the property itself.
How to properly budget for maintenance
A better way to budget for property maintenance is by starting with the “1-2%” method and then making adjustments based on the individual needs of the rental. If your rental is more than 25 years old, you need to set aside more money for upkeep and maintenance. If you live in a part of the country with winter snow and ice, make sure you account for gutter repairs, roof checkups, and fall furnace tune-ups. Consider the age of systems in the home: if your furnace, for example, is more than 15 years old, you need to start saving now in the event it needs to be replaced in the next five years.
To a certain degree, the process of estimating your home’s upkeep involves making some educated guesses. You may need to adjust how much you’re saving a year or two in, after you get a feel for what the property needs.
When in doubt, save more than you need
As long as doing so doesn’t put a strain on your finances, there’s really no such thing as “over-saving” when it comes to your rental property. Putting more money aside than what’s needed in a given year is a good thing: it allows the excess to “snowball” into the coming year, and then the year after that. After just a few years, you’ll have hefty savings account built up, specifically set aside for taking care of your rental.
Every long-time property owner has a horror story of that year: a year where just about everything seems to go wrong at once with their rental. Under the normal “1-2%” model, a single major project—such as replacing an air conditioner or fixing a roof leak—can vaporize your entire annual budget, forcing you to pull money out of your personal savings or dip into your line of credit to pay for everything else. If you have a “snowball” savings, you can instead use it to cover these rare, but expensive, projects.
A savings account for your rental property can also serve as an emergency fund in the event you lose your rental income for an extended period of time. In past economic downturns, many property owners ran into trouble when their renters couldn’t pay rent and they were forced to cover the mortgage of both their own home and their rental—an untenable situation when they themselves lost their job and primary source of income. This led to an unfortunate number of foreclosures, bankruptcies, and heartbreak. Saving now during times of prosperity can help you endure lean times in the future.
Set aside money for upgrades
On a less-dour note, saving extra also gives you the ability to make strategic upgrades to your rental property. For example, if you know your property needs a new water heater in the near future, you can feel comfortable knowing you have the cash on hand to replace the system well before it stops working. You won’t have to cut corners by hiring a less-qualified professional or buying a cheap system. You’ll have the budget to handle it and move on. In many ways, effective budgeting and saving take the financial stress out of property ownership.
Of course, this reserve of cash doesn’t always have to be spent on essential projects. Once your savings account is large enough, you can put some of it into remodeling the property’s kitchen, bathrooms, or backyard—all with an eye on increasing your property’s long-term value and attractiveness to future tenants. If your renovations mean you’re able to rent out your property for even more money every month, a channel that additional cash into your savings account to replenish it after you complete the project.
The entire point of owning a rental property is to make money. By effectively budgeting for maintenance and establishing a robust savings account, you can ensure that the property’s repairs—no matter how small or large—don’t cut into your personal finances.