CapEx Reserve In multifamily Properties

[Mike Ball]

I am having a tough time understanding how $250-300 per unit is adequate for a CapEx Reserve. For example, if an HVAC blows out, that's a $3000+ expense and there goes 10 years of reserves. There are so many other items in an unit that the reserve should pertain to including appliances, roof, electrical, plumbing, etc.

So my question is, how do people justify $300 per unit annually for reserves and what do they expect to capture in that figure (versus just including it in repairs).

[Sam Grooms]

$250-$300 is not always adequate, and the lender will use third party reports to calculate this for you. You can see this jump up to $500 fairly easily for some buildings, or in some markets, or with some lenders. 

In regards to your example, HVAC is likely the largest expense you'll see on a per unit basis. And the typical expectation is that you'll get more than 10 years of use out of it. We can get complete HVAC replacement for $2,500, with an expected life of 15 years. That's $167 per year. The roof of a 16 unit two story building will cost about $20,000 to replace. That's $1,250 per unit and lasts about 15 years, so $83 per year. Next largest is likely the water heater at $50 or less per year. Those three alone get me to $300 per year. 

Lenders like HUD are a lot more conservative, and will likely require $500 per unit per year. But even if your lender doesn't require more than $250, I wouldn't underwrite less than $300, and even that is pretty skinny. We're able to underwrite $300, but we come in with cash reserves to replace the roofs (even if they're brand new), to replace a third of the HVACs (or more depending on current condition), to replace a third of the water heaters, and a third of the washer/dryers (if in unit). Hopefully I don't have to use these, but it's better to be safe. And even if you're not as conservative as that, you'll still need some type of cash reserves to hold you over until you can build up your reserves with the lender, which will take a few years.