Is contigency reserve normal for property management?

Question

I am currently in the process of reviewing a contract from a property management company, and I came across a clause that raised some questions.

The contract stipulates that a sum of $500 per property, up to a maximum of $2,500, must be deposited as a contingency reserve. It further mentions that the agent can withhold rental income on a monthly basis, as necessary, to restore the full contingency reserve.

While I understand the concept of a contingency reserve for unexpected expenses, the idea of withholding rental income to replenish the reserve is new to me. I wanted to reach out to you, given your expertise in the field, to seek your opinion on whether this is a standard practice within the property management industry.

Should I be concerned about this clause? Do you consider it to be a fair and standard practice, or is it something out of the ordinary that warrants further scrutiny?

I appreciate your time and look forward to hearing your thoughts on this matter.

Richard F. · Answer

Aloha,I agree with most of what @Bill Brandt stated above. We handle reserves exactly the same...the amount varies depending on a) general condition of the property; b) estimated monthly net; c) the spend limit which the Owner does have a say about, although we typically recommend $1000 - $1500 based on rents at a minimum of $950 - $1150. Locally we cannot get a water heater replaced for much under $1500 by a properly licensed and insured contractor; and number of properties/units each Owner has with us. Keep in mind, busy PM's are processing 100's, 1000's of payments at beginning of month; then writing checks for paying all the bills; then sending reports and net to Owners. They work in large batches, but by the second half of the month most of the funds have been disbursed. That second half of the month is when the reserves may be needed. We do not, however, let vendors know what limits we might have...all they need to know is we will not spend money that is not sitting in our Client Trust Account. If there is a major project, whether a complete reno, roof job, major plumbing or electrical, no matter what, there will be a contract signed by our Client and their funds will be deposited and cleared, to our Trust Account prior to work starting. Final payments will not be made without Client approval.For smaller jobs, appliance repairs, plumbing or electrical service calls etc., I require the vendors to call me from site for recommendations and approval of their verbal estimate based on findings.No PM will pay vendors out of pocket, and it hurts ALL of their Clients if they slow pay a vendor. We usually pay 10 days net.

Nathan Gesner · Answer

I'm a PM and do the same.Tenant pays rent July 1. I deduct my management fee and pay the owner on July 5th. On July 10th I get a plumbing bill for $240. I don't have any rent income to pay the bill, so I use the reserve. The Tenant pays rent on August 1st, so I put $240 of that back into the reserve to bring it back to $500. Then I deduct my management fee and pay the owner.

Bill B. · Answer

Yup. Mine is $200 per property but no max. This is so they can pay vendors immediately for a plumbing repair, or ac capacitor, something like that. Can you imagine being the PM who pays a vendor and sends the landlord all the rent while they refuse to pay an invoice? This is non-issue, only thing that will change is the amount. I would check the amount of the repair that can be done without authorization. The vendors know that amount and a lie if repairs will be exactly that amount. So better it’s $250 instead of $500.

Peter Tverdov · Answer

We do $500 per property. Extremely common. We have some owners who never respond to emergency requests over that amount which is by far the worst. We don't put up with that long though.You need to be liquid if you own rentals folks! Gotta service your properties correctly.

Melanie Thomas · Answer

Certainly, adhering to industry standards is crucial for efficient property management. It's important to have reserves in place to address minor repairs and maintenance issues without constantly involving the property owner. Constantly reaching out to the owner for every small repair can hinder productivity and result in tenant dissatisfaction, leading to potential lease non-renewals and overall discontent. By having reserves and promptly addressing necessary repairs, we can maintain tenant satisfaction, encourage lease renewals, and ensure smooth operations. Good luck & happy investing!

Michael Smythe · Answer

It's a good idea to have the contingency match the owner approval threshold.

Theresa Harris · Answer

My PM does $500. When they have repairs and need to pay for it, why should they have to front the money or wait until rent is paid to pay the bill? They handle a lot of units and this makes it easier for them.