What do you consider CapEX?

Question

I've been trying to learn as much as I can on CapEx and am still struggling budgeting for it. There are so many ways of thinking on this. What do you consider CapEx items?

• Major Items: Roof, HVAC, Water Heater?
• Major Items + flooring, cabinets, paint, windows, etc.

To me, having a roof leak or the AC unit dying is a major problem, but old cabinets/paint is entirely different. This is how I see things.

• CapEx: Roof, HVAC, Water Heater
• Maintenance items: flooring, paint, etc

I think these are two different budgets. What do you think/do? How much are you budgeting for each? I buy properties (sfh) that are all newly renovated and everything is less than 1 year old. Any suggestions on my budgets? Thanks!

Martin Andersson · Answer

@William S.

For vacancy I used the number that my property management company gave me for the area. I guess it can vary from market to market. For CapEx I used the numbers I got from the appraisal. It had a break down of everything you'll need to replace eventually and what the estimated useful life is for each item. I've seen other estimates from anywhere between $50/month and $150/month and I guess it will depend on the size of the property and how well it's renovated when you purchase it. For maintenance I just went with a number that seemed reasonable to me after talking to several investors.

I'm not claiming that these numbers will work out perfectly. In fact I'm hoping I've estimated them too high and that I'll end up with a good surprise :)

I would love for some more experienced investors to weigh in with their long term experiences!

William S. · Answer

@Martin Andersson

How did you arrive at those numbers?

Martin Andersson · Answer

I'm buying fully renovated single family houses. In my estimates I'm using 7% vacancy, $60/month for maintenance, $90/month for CapEx when I'm calculating my expected monthly cash flow. So this equals $1800/year for expected maintenance plus CapEx.I'm expecting CapEx to be far lower first few years, but it will grow over time when you'll need to replace a roof or whatever.

William S. · Answer

My current approach is to set aside $1,000/year for repairs and maintenance (per house). Then take HVAC, roof, AC unit (did I miss anything?) lifespan and break the replacement cost down into a monthly amount. Things like flooring, paint, cabinetry is part of my $1,000/year repairs and maintenance budget. I see these as items that tenants can break down, therefore I put it in the repairs budget. Thoughts?

Oren K. · Answer

William,

CAPEX / Reserves is about putting funds aside from operation to cover 'big ticket' items that have predictable life spans to avoid the 'cash call' when that item needs to be replaced. There is a reason that condos and professionally run syndications do this.

They know that if they ask for the funds when needed, some owners will refuse or delay and the work will not be done in a timely way causing the asset to deteriorate in value. By taking a bit each month / year, the funds are in place when needed and they just do what needs to be done.

Just as you set an annual (1-year) operations budget for snow, garbage, utilities, etc, this is separate multi-year budget that you need to account for.

IF you wait to fund CAPEX until something fails, you risk not having the funds available at that moment (Murphy rules!) and you are mis-leading yourself regarding the actual return of your investment during the years that nothing fails.

I would re-characterize what @Jd Martin and all flippers do. They are pre-funding / paying all CAPEX up front during the rehab and so can reasonably expect to have very few (if ANY) failures before they sell the asset. The purchaser, as part of their assessment, needs to jump start and pay into their own reserve fund.

Oren

JD Martin · Answer

You're on the right track. You can use the IRS definition but I consider any single item repair/replacement over $500 that has (should have) at least a 5-year lifespan as a capital expenditure. That gives you water heaters, roofs, decks, HVAC units, new cabinets, new flooring, etc. You can use a lower number if you want - if you're buying laminate counters for $300, you may want to consider that a capital expense. I look at cheap counters as more of a maintenance item, but everyone has a different idea of this.

My capex budgeting is very low because I buy distressed homes and fully rehab them before putting them on the market for rent. This usually includes new roofs, gutters, flooring, cabinets, bathroom fixtures, counters, etc. I usually don't include repairs to systems as a capital expense - if I have a leak in a roof fixed with a pack of shingles and some labor, I consider that maintenance.