Stashing away for Vacancy. Does it actually matter?

Question

Does stashing away for vacancy really mean anything? The idea behind stashing for maintenance and Cap-Ex make sense, but for vacancy, say you start out with a new rental, and you put away 3-5% for vacancy per month. Let's imagine you're rented out for a full two years before you hit a month of vacancy, that whole stash is wiped out with pretty much one month's mortgage payment. The same doesn't feel true for a clogged toilet, or a broken garbage disposal. Does it really matter? Should you just get loss of rental income worked into your insurance policy?

Randall Alan · Answer

Vacancy is really just a profitability calculation.  I too think it is highly over-rated (ie. doesn't play a major factor like some buyers try to make it.)  Here is my reality:  We have 37 units, and if a rental is turning over there are basically three possibilities in my book:

Scenario 1: Presuming your renter took care of the unit, it can be cleaned and ready to re-rent within a few days. In today's market where I live, if I get notice of a tenant moving out, I will turn on the marketing for the unit a couple of weeks in advance of the move-out and I can usually dove-tail a new renter within 48 hours of the old renter moving out.  Pretty much a zero vacancy situation.

Scenario 2: The renter damaged the apartment and it needs repair.  Maybe it's just painting, maybe it is more?  Now you have to figure out how fast you can get those repairs done.  You more than likely can't dove-tail your marketing like you could with a seamless transition.  If you can get immediate repairs made, you are probably talking about a week of repairs, and the marketing following shortly behind and a move-in within 2 weeks of that.  So it might be 3-4 weeks in a good scenario.

Scenario 3:  You have multiple vacancies at the same time and you are doing your own repair work.  You can't get to the 2nd unit until you finish the previous unit needing repair.  Now you can have a unit sitting idle for longer.

But to your question - do I put money away for vacancies?  No.  It's just lost income to your income stream.  If you only have one rental, this may mean you are paying the mortgage for a unit if you are down for a month and it will 'get your attention'.  When you have multiple units, you usually have enough cash flow that you will notice your bank account start going down as you don't get that rent payment for the month(s) that a unit is down.  But the bank account just absorbs the loss and life goes on.

What we do is have a maintenance reserve account that we transfer $100/month / unit for simple repairs (ac / plumbing / etc).  So for us, we are moving $3,700 / month into this account.  While the account will float up and down, this figure seems to work out pretty well to absorb both the minor repairs, and the occasional bigger one.  So it might get up to $7,000 - 10,000 dollars, but then we'll have an Air Handler or Air Compressor go out, and then it drops by $2,000 - $3,000 or $5-6,000.  That little of a transfer won't usually handle Capital expenditures like a new roof, or a new septic field though.

Hope it helps!

Randy

@Tyreek King-El

John Underwood · Answer

You should always have reserves or at enough cash flow from multiple properties to take care of a roof or a HVAC unit.

I don't sweat vacancies at all in this market as I can rerent a place within a week. Also all of my LTR properties are paid for so I don't have mortgages on these to worry about.

I do keep reserves for the unforseen.

Kim Meredith Hampton · Answer

What @Randall Alan  said.

In addition, you should always have loss of rental income in your insurance policy, but this would only take effect if there were a pipe burst, hurricane or storm damage etc… not just simple vacancy between tenants

Set aside some reserve money, that’s it! Things will happen, guaranteed, just prepare for that and move on. Vacancy calculations are just that

Nick Bolding · Answer

Tyreek,

Such a painful topic with most investors. Working in Property Management for almost 6 years, yes I'd say it's incredibly important to set money aside for vacancy. As everybody has said previously, just make sure you have reserves set aside for any event that may happen. That may prevent you from enjoying cash flow, but will pay off better in the long run. In other words, like I have explained to hundreds of investors. Don't live off of the cash flow. Try not to use any of that cash and use it for personal expenses. Let it snowball so you can have the funds available for additional investments, additional repairs, or additional upgrades in the property.

Mitch Lowe · Answer

Hey Tyreek,

I've found that you need to be much more careful when you have a small portfolio. If you are unable to finance the property out of your personal income when something happens, then you should be reserving aggressively. It may be vacancy, it may be a roof, it may be that a tenant stops paying. Regardless, you can expect at some point you'll stop getting paid for a few months. I hope you can avoid this, but it seems inevitable at some point.

Mitch

Theresa Harris · Answer

As long as you have money set aside to cover the vacancy or repairs, that is all that matters.  Your insurance will only cover lost rent if the unit was rented, something happened (eg burst pipe) and the tenant had to move out for a prolonged period of time while repairs were done.

Drew Sygit · Answer

@Tyreek King-El you can tap your CAP-EX and whatever reserves you have for vacancies - as long as you replenish as needed.

Joe Funari · Answer

@Tyreek King-El These posts give great advise.I will add definitely having loss of rents coverage added to your landlord policies to cover fire, tornado, etc if tenant occupied. I would also advocating keeping a few thousand in reserve per property for maintenance issues that arise. Especially in older homes. Something always breaks over time. But I would also recommend you confer with an investor friendly realtor to determine what your average days on market is for a rental. Here in the Dallas/Ft. Worth area the average for rentals is only 17 days. So many rental calculators default at 2 months holding cost. But here in Dallas/Ft. Worth is not the case. So there is stashing reserves and being too cautious on calculating holding costs. There is a balancing act for sure. But the more knowledge you gain from your market your investing the better. Knowledge is power.

Paul De Luca · Answer

@Tyreek King-El

It's definitely important to have reserves in the event there is a vacancy and you need to make repairs/updates, and I do think that you should include it in your underwriting to be practical. That being said I agree with @Randall Alan.

Keenan Fitzpatrick · Answer

This is the answer. Having reserves for these items is better than footing unexpected bills out of pocket.

Stashing away for Vacancy. Does it actually matter?

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