I had another great question come up from a friend of mine. 

"I use  40% of Gross Income as my Total Expenses (taxes,insurance,repairs,vacancy,etc) not including mortgage and in my case, management fees since i manage the properties myself.  Am I on the lower or higher end of it?

How do you guestimate your total expenses? is there a formula?"
 

I believe the context here is for estimating what effect this will have on cash flow when you are coming up with an amount to offer and therefore finance when purchasing a cash flow property. 

I’ll tell you where I really want to be – I want the maintenance to be 10% of gross income or less.  You’ll get this on properties that are mid 1960’s and newer, or older homes that have the plumbing, electrical, and heat and air updated. 

I remember when I first started out I bought these old junker houses – you know the ones…pre-1950’s plumbing, wiring so old that you didn’t trip the breaker, you blew a fuse…and yes, tempermental floor furnaces. 

I thought you just bought the house, gave her some paint and carpet, and you are off to the races. 

WRONG!!!

You’ll pay through the nose if you don’t get these items updated to some standard that doesn’t required constant maintenance.  That doesn’t mean you have to totally rewire the property just because it has a fuse box.  But it does mean that you need to know where to spend your money properly on upgrades.  If you don’t, you might as well figure in 20% on mainenance and a higher than usual vacancy rate. 

That brings me to vacancy, which ideally is less than 10%.  If you are running higher than 10%, it’s time to take a look at what’s not working right in your business.  Basically, you have a break down in one of the following areas:

1) You aren’t getting your properties ready to rent quick enough between renters,

2) You don’t know what you are doing when it comes to collections,

3) Your marketing / advertising isn’t getting you enough traffic into your properties,

4) Your tenant screening is not adequate, or

5) The amount of your advertised rent and/or deposit is too high relative to your market.

As for property tax and insurance, it’s best to use actual values. 

Once a year you should be doing a financial statement, even if you don’t have to put one together for the bank.  When you do, calculate out the maintenance and vacancy that you are experiencing.  The amount of maintenance that you actually do will be in those numbers. 

As for vacancy, you can calculate that by taking the amount of income you collected (other than late fees and seized deposits) and divide that by your potential income if 100% of rents would have been collected for the year.