Why Do I Need a Reserve for Repairs
When putting together a proforma for a potential investment, the reserves or repair and replacements is one of the most overlooked and underestimated components. Unfortunately this is a component that can sink an investment and this isn’t realized until it is far too late. Don’t make this mistake.
So what are “reserves for repairs and replacements”? Essentially it is a fictitious expense, either combined as one for repairs and replacements, or sometimes separated out as an expense for each. The number(s) are derived from simple estimates on how much will be spent each year on repairing items (e.g. plumbing, HVAC, fixtures) in the property or replacing items in the property (appliances, flooring), including during the “turn” – when the property is being prepared for new tenants after an existing one has vacated.
Not taking into account these expenses can not only significantly cut into your returns when they occur – they can be a disaster on cash flow. They tend to be needed straight away, are not something that can be avoided when they do happen, and generally have to be paid for up front and immediately. Most are around $50 to $100 (fixing a garbage disposal) and many can be done without having hire someone (retacking carpet) – but some can be in the hundreds (new refrigerator) or thousands (new HVAC or roof).
In addition, not only does a good investor take this inevitable expense into account – he or she also accrues the cash to be on hand for when needed.
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