How to Factor Expenses from Reserves into Cash Flow Statement

Question

Hello! I'm going nuts here trying to figure out how to properly set up a statement that shows my cash flow. In particular, we have a reserve (escrow) account that we put money into each month the year before to cover our property tax bill paid in January. So for January, while we might only have $20k from rental income and a $55k property tax bill, we were still cash flow positive because we used the reserves to pay for the property tax. But the reserves don't show up in that month's "income" so it looks like we were cash flow negative. Does this make sense to anyone? Sorry, this isn't my most coherent post.

To clarify, the total income for January below would be only $20k but the OpEx (operating expense) includes a $55k property tax bill. The property tax bill is being paid from our reserves, but the cash flow statement below doesn't show the reserves anywhere so won't account for that.

In case you can't tell, I'm not an accountant!

Thanks!
Kim

To clarify, the total income for January below would be only $20k but the OpEx (operating expense) includes a $55k property tax bill. The property tax bill is being paid from our reserves, but the cash flow statement below doesn't show the reserves anywhere so won't account for that.

In case you can't tell, I'm not an accountant!

Thanks!Kim

Tyler Kastelberg · Answer

@Kim Hopkins: It's more reasonable to model deals on an "accrual method," meaning you would spread the property tax cost evenly across all months. Most accountants will accrue these costs on an income statement. It's in your best interest to keep a healthy reserve balance for the property to support these ebbs and flows of cash flows.

Kim Hopkins · Answer

@Linda Weygant Perfect! Thank you so much! This explains it. Really appreciate it. Wish there were good models for me to use for this. I'm sure there are but the nuances can be confusing.

Thank you @Tyler Kastelberg as well - your answer also helped clarify it for me.

Thank you!Kim

Aaron Ringel · Answer

Accrue your expenses when you realize them or have a reasonable expectation of realizing them, and recognize your cash inflows and outflows in the period they happen. Any one financial statement doesn't say much on its own. Taken together, they can have predictive value. That said, I'd be very worried about the numbers in your hypothetical.

Linda Weygant · Answer

@Kim Hopkins,

Each month, you'll include that sweep to reserves as part of your cash flow calculation.  Then, when the expense is paid from reserves, you'll want to not count it.  This doesn't work very well in accounting packages as they only account for what has actually happened and what is counted as an expense.  For example, your monthly sweep to reserves is not an expense - it is just a balance sheet transfer.  Likewise, your annual or quarterly or whatever property tax payment is expensed when paid, if you're on the the cash basis (which most people are) but you've already counted that in the reserves.

Here is what your accounting software probably shows in the month that you paid the property taxes.

Rental Income - $1000.00

Expenses:

Insurance:               30.00

Property Mgmt:   100.00

Mortgage Int:        350.00

Property Tax:        700.00

Total Expenses:    1180.00

Net Loss                   180.00

So what you want to do is dump this report into excel in order to reconcile it back to your cash flow.

Start with your Net Loss Number and then make adjustments until you reach your cash flow:

Net Loss:        180.00

Add Expenses Paid from Reserves:

Property Taxes:  700.00

Subtract Other Cash Payments

Mortgage Principal: $150.00

Amount transferred to reserves:  $80.00

Net Cash Flow:  $290.00

Cash Flow is a completely separate calculation than Profit and Loss.  Your accounting software is where you want to accurately calculate your Profit and Loss as this is what you will use to prepare your taxes with.

Your analysis spreadsheets is where you will calculation your Cash Flow, ROI, IRR, Cash on Cash or any other ratios that are important to you.

Do your best to keep your Profit and Loss calculations pure and then manipulate those figures however you choose in order to figure your personal analysis.

Note that some accounting packages will create a Statement of Cash Flows for you.  This can be helpful if you have a good understanding on how to read them.  Otherwise, they are just more confusing.

Tyler Kastelberg · Answer

@Kim Hopkins

Kim - Thanks for the clarification. I can't speak for other folks, but on my properties I have my accountant accrue the property tax payment over the life of the property tax period. For example, I pay quarterly property taxes on January 1 for January through March. My accountant expenses 1/3 of cost on the income statement each month and puts the remaining balance on the balance sheet as a pre-paid expense. This helps level out the cash flows on the income statement.

Does this help?

Kim Hopkins · Answer

Hi Tyler, Yes I take reserves out for the property tax each month. That's why I'm saying that even though the lump sum was due in January, I'm not actually cash flow negative since I used the reserve. Also this is not for deal modeling. This is my actual property and I'm trying to show my monthly actual cash flow so I'm not sure I want to use the accrual method.

I'm asking how this large payment would be modeled in a cash flow statement?

How to Factor Expenses from Reserves into Cash Flow Statement

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