Why Do We Account for Vacancies?

Question

Hi guys, I have been listening to the podcast and trying to learn so I can get started and I'm not sure when but I will definitely be getting into buy and holds at some point in time. I don't think I have heard anyone say why you put money away for vacancies. From what I've learned, you should generally put 50% away for expenses, and have the rest of the rent should pay for the mortgage. I like Brandon Turner's minimum of  $100 per unit. Why is vacancy something we account for? I'm sure this is a newbie question but from my point of view, there is no utilities to pay for. I am also looking into a smaller multi family property and to finance it with a FHA loan

Marcia Maynard · Answer

@Corwin Hernandez Welcome to Bigger Pockets!

When you own residential rental property you will have holding costs such as taxes, insurance, utilities, maintenance, and debt service (such as with a mortgage). If your unit is occupied and the tenant is paying the rent, then these costs will be covered. When your tenant moves out, you will still have expenses but no income. It is common to have some vacancy in between tenants while doing the turnover. If you need to make repairs and/or decide to make improvements while the unit is vacant, the period of time you are holding it and not generating income may be significant.

We don't put money away for vacancies, but we do factor it into our budget. On the Income Statement, vacancy loss will show as a negative under the income section. This is the amount of potential rent revenue we lost by the unit being empty. This is important to take into consideration when forecasting and later when reporting actuals.

Aly W. · Answer

You're welcome, good luck!

Corwin Hernandez · Answer

Okay, thanks for the great information. I'll have to study up some more and figure out the  amount to put away depending on the unit. I really appreciate your insight @Aly W.@Jd Martin

JD Martin · Answer

Putting away money for vacancies really depends on your cost factor. If you have no leverage - i.e., you own it for cash - then your costs are going to be minimal, and a month or two vacancy is not going to "cost" you anything, just eat into your cash flow. If you are leveraged, then you have a lot more in fixed costs, and if your ratio is already slim, putting money aside for vacancies will keep you from tapping your own personal cash flow to cover expenses.

Ideally, your units have so much cash flow per month that a month or two vacant will only affect how much cash you banked that year. The units that I have leveraged could have 6 months of vacancy and still pay for themselves, and I have a mix of free & clear & leveraged (diversification!). Also, the more you depend on that rental income for your "salary", the more vacancies need to be factored into your cost projections.

Aly W. · Answer

The tenants in our single family homes pay all utilities including the water/sewer bills, but those utilities are lienable; meaning, if the tenants don't pay them, the owner has to. I make sure the water/sewer bills are in the tenant's names so that if they don't pay, they will get shut off. However, we are ultimately responsible for paying them.

In that city, the property taxes cover garbage collection, so there is no separate bill for that.

In our condo rentals, the water/sewer/garbage is included in the monthly maintenance fee, which we pay directly, but is covered by the rent. Unless the condo is vacant - in which case we still have to pay the monthly maintenance fee, the electric, and the insurance and taxes. Those are fixed costs, and no rental income is a loss during that time.

Corwin Hernandez · Answer

Okay, thank you so much for your input everyone. @Max Tanenbaum@Jacqueline Carrington@Marcia Maynard. I was just a little confused before but understand now. I didn't know that in some markets, some utilities have to be paid by the landlord. I might be mistaken but I heard on one of the podcasts I believe that even though the water is billed in the owner's name, the owner just billed it to his tenants. So generally speaking, if my market supported it, I could have the tenants pay utilities but if it doesn't, I'd have to pay them?

Max T. · Answer

You're assuming that all utilities get paid for by your tenants, so you must be thinking of single family homes.

One expense that I have to pay on those rentals is trash collection. It runs $150/year. Every market is different.

Jacqueline Carrington · Answer

Accounting for vacancies is sort of like accounting for a family budget in the event of a job loss.

If your units are vacant, where is the income to pay for the expenses? Maybe you own in a college town and vacancy could be significant in the summer. You'd want to account for that and hopefully plan in advance by having some funds stashed during the cash flowing months to keep the bills paid during your high vacancy times.

As stated, vacancy loss is a negative line item under revenues so you can see how much potential rent was lost during any period.

Why Do We Account for Vacancies?

Most Popular Reply