Replacement Reserve Funds

[Marlon Freeman]

Good Morning BP,

I have a question about reserve amounts. When analyzing deals, what do you budget for reserves? do you withhold a flat rate amount, or do you withhold a percentage of the gross rent? Currently I am using a 10% of gross rent for my calculations. Is that too much, is it not enough? Does your market make a difference in what you reserve? I am in the dfw market, specifically fort worth. Thanks in advance.

Marlon

[Mike H.]

I guess it depends on how many you have and how much income the ones you have are generating.

I really think you need to look at reserves as a sliding scale.
If you own between 1 to 5 - I think you need about 5k per house.
Between 6 to 10 - About 3,500 per house (i.e. 20k for 6 houses is good, 35k for 10 houses is fair).
Between 11 to 15 - 3k per house
And 16 to 20 - 40k in the bank should be sufficient.
20 or more - 50k should do it.

That also assumes that you should net about 200 to 300 per house or more on average.

So technically, if you have 20 houses, you should be making about 4 to 6k net profit (after vacancies and basic repairs). Then if you have a roof or a couple of hvacs go out in one month, you would use your profits to cover those and shouldn't have to dip into your reserves at all.  If you really get hit hard one month, then you might have to dip in. But then the next month you should be able to replenish your reserves from your profits.

I really believe that the hardest time I had was early on when I only had a couple of houses. A vacancy really hurt. An eviction (2 months plus attorney fees - luckily I didn't have any cook county evictions back then) kept me up at night... :-)

The one thing I will say is that I had very few major mechanical issues back then. For the most part, I was buying houses with decent hvac systems. If they didn't have decent hvac systems, roofs, etc, I was budgeting enough of a rehab to replace them. 

And I rarely have had to replace a water heater - mostly because I tend to replace them automatically in every single rehab I do. I just figure they've been sitting for over a year and the towns down by me can have kind of shaky water so the water heaters are that much more likely to have issues.

$650 for a new water heater = no late night calls of flooding.
Water and hvac are 2 of the 3 items that can generate an emergency call.