How do you build cash reserves when you are just getting started as a landlord?

Question

I am in the process of looking at single-family properties for my first rental. I don't have any cash on hand for the cash reserves. Is it important to have the cash reserves already saved up BEFORE you acquire a rental property, or is it okay to just set aside a percentage of your gross rent to fund the cash reserves after the investment property is acquired? How much money do you need you need in cash reserves for every rental property? I would appreciate any advice!

Clayton Plummer · Answer

Yes, it is important to have cash on hand.  If you're doing well for yourself, you're making about $100/door from a rental after EVERYTHING is paid.  $100/month is $100/month, but it doesn't add up too fast at first.

The basic rule for the amount of cash to have at hand is 3 months of ALL expenses as if the rental was unoccupied and you had to pay all the utilities on top of the full Primary mortgage, Interest, Taxes, and Insurance (PITI).

As well, it's pays to have a bit more because life happens.

Good Luck!

Manny Vasquez · Answer

I also recommend to get a Home Warranty for your investment property, just like @Clayton Plummer recommended above.  There are a few Home Warranty companies such as American Home Shield, First American Home Warranty, Choice Home Warranty, Old Republican Home Protection, just to name a few.  This will definitely come in handy just in case something "big" needs to be repaired or replaced.  As a general rule of thumb, I usually strive to keep about 2-3 months of mortgage payment reserves.  This has worked well for me and my properties.

Calvin Thomas · Answer

This is horrible advice. Horrible.

Calvin Thomas · Answer

Don't be foolish and get a home warranty. They are garbage. You should have reserve funds sitting in a savings account as well as credit lines and credit cards for backups.

Clayton Plummer · Answer

@Mohammed Milord -

It can help to have the rental unit occupied already, but that is not going to stop things from needing to be fixed.

Also, to back Manny up, the home warranty is only good for less than a year.  You need home insurance as well.  They overlap each other, but don't cover the same exact things.

Calvin Thomas · Answer

If you feel spending $1k+ a year for a plan, plus $100+ service call fee; then go for it. When the limits are $3500 a year, I am not sure I see the value; but no problem. Do what works for you.  Overall, it's a bad deal.

Calvin Thomas · Answer

Well, first, their is a base annual fee. Second, there is a limit to how much it will pay per claim and per annum.  Third, there is a per visit fee.  Add all this up, and one would be quick to see it's not worth it and its a waste of money.

Sample contract:

https://www.ahs.com/contentassets/8ba0119cd29145d1a2cedce007...

Looks like a great deal (sarcasm).

Jay Thomas · Answer

Cash reserves are crucial to handle unexpected expenses like repairs or vacancies. Ideally, it's best to have reserves before acquiring a property as it shows financial responsibility to potential lenders. If you need to build reserves after acquiring the property, allocating a portion of the rent towards reserves is essential, aiming for at least 10-15% of the gross monthly rent until you reach a comfortable level, ideally 3-6 months of rental income. The amount needed depends on factors like property age, location, and personal risk tolerance, with a general guideline suggesting 3-6 months of reserves. When analyzing investments, factor in potential vacancy rates and repair costs to estimate reserve needs, considering unexpected expenses like appliance replacements or eviction proceedings.

Manny Vasquez · Answer

@Calvin Thomas You are right in that there is a base annual fee.  Typically they start at about $450 (on the low end) and then they begin to go up depending on coverage. I've had Home Warranties, with A/C included, for about $550-$600.  There is an upper limit ( I don't know what that is) as there would be with any "insurance" type of program.  And there is a per visit fee, which I agree with so that they aren't being called out for every little incident. That fee typically ranges between $45 - $75 depending on what the visit is for.

If no "incidents" happen to your home for about say, 5-8 years, and one keeps paying the annual fee, then yes, I can see where it is a "waste of money".  However, I just had a client of mine, purchase a home and her furnace went out, literally 2 months after the purchase.  The Home Warranty company came out, assessed the damage/repair, and in short they will be replacing her furnace.   Between the price of the furnace and the labor it would have cost her about $3K - $4K and all she came out of pocket was the $75 site visit (and if you want to count the home warranty cost then add $550 to that).  Surely, the $550 + $75=$625 was much better than paying $3K - $4K in this instance.

Home warranties aren't for everyone.  However, if you are starting out, especially with lived-in homes, it would be wise to have a home warranty. This would help with the "what-ifs" and the "unkowns".  Definitely would give the new home-owner peace of mind just in case something goes wrong.  Home warranties are kinda like "insurance" (not exactly insurance but for lack of better word)....you may never use them for years but when you do need it, its great to have.  Its always better to have it and not need it, than to need it and not have it.

Jake Andronico · Answer

@Mohammed Milord

If you don't have some cash reserves going into a deal, I would not do it. Cash reserves have saved me on numerous occasions.

100% of properties break down eventually. It's not if, but when.

But, if you know this up front it will not be a surprise.

How do you build cash reserves when you are just getting started as a landlord?

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