Real Estate Information Archive

Blog

Displaying blog entries 1-2 of 2

Guide to Successful Real Estate Bookkeeping

by Harold Powell

The goal of bookkeeping is to have an accurate record of all the money going in and out of your business. Also known as “doing the books,” bookkeeping is a vital task in your rental property business and something that is not optional, but required. There are several benefits to being organized in this way, such as freedom, legality, and profitability. When you know exactly how your business is doing at any given time, you are able to make better decisions and sleep more easily at night.

1. Keep things separate.

The first rule of bookkeeping for your real estate business is to make sure you keep your personal expenses 100 percent separate from your business expenses. Not only does this make the bookkeeping easier, but also from a legal standpoint it’s a bad idea to commingle personal and business funds, especially if you are using (or plan to use) an LLC or other legal entity. So set up a separate account for your real estate investments; this includes a separate bank account,

When itemizing the income and expenses, the best to categorize them in the same categories that the IRS lists on Schedule E, the form you’ll need to fill out each year at tax time. The expense categories that the IRS defines are:

  • Advertising
  • Auto and Travel Expenses
  • Cleaning and Maintenance
  • Commissions
  • Insurance
  • Legal and Other Professional Fees
  • Management Fees
  • Mortgage Interest Paid to Banks, etc.
  • Other Interest
  • Repairs
  • Supplies
  • Taxes
  • Utilities
  • Depreciation Expense or Depletion (we call this Capital Improvements)
  • Other

Therefore, we try to place every expense into one of these categories.

Of course, there is the “other” category if something just doesn’t seem to fit, but we seldom use this. It’s just easier to make it fit within one of the other listed categories.

Rental Property Numbers You Can Calculate on a Napkin

by Harold Powell

The numbers. In this industry, you must love the numbers. Love them like they are part of you.

What numbers do you run? Well, what should any investor care most about? Cash flow. What determines cash flow? Income and expenses. Simple. People make running numbers out to be so complicated sometimes it’s a no wonder more people aren’t involved in real estate. In fact, the numbers can be one of the easiest parts of shopping for a property. Unless you are a trained psychic on the crystal ball, then predicting appreciation may be easier for you than estimating cash flow.

1. Figure out the Monthly Income (Gross Income): This will either be rent the current tenants are paying, the asking rent (confirm this number is realistic), or if you have neither of those you can talk to a local property manager or realtor  who can give you a market rent value for the property.

2. Calculate the Monthly Expenses: These include property taxes, insurance, property management fee (if applicable), mortgage or financing (if applicable), homeowner’s association fee (HOA) (if applicable), vacancy and repairs. Don’t forget vacancy and repairs! They are a real part of any property investment and they can drastically affect the cash flow. Yet so many people don’t think to include them in the expenses.

  • Property Taxes– Look on Zillow or another online source for the most recent annual tax amount and divide by 12.
  • Insurance– Get a quote from an insurance provider.
  • Property Management Fee– Usually around 8-9% of the monthly rent.
  • Mortgage -Use an online mortgage calculator to calculate the monthly payment. Confirm with your lender what your down payment and interest on the loan will be to ensure you are using accurate numbers for your calculations.
  • HOA- Don’t skip out on finding out what the actual HOA is! The HOA can absolutely kill a property’s cash flow.
  • Vacancy– I conservatively estimate 5-10% of the monthly rent towards vacancy expenses. In situations where you have a rockstar property manager or your tenants are under a lease option, the actual % should be much less
  • Repairs– Again an estimate but should not be left out. Just like with vacancy, I err on the side of conservative. If a house is a turnkey property or recently rehabbed and gets a good report from the inspector, I use 5% of the monthly rent. If the property is not in top shape, conservative could mean closer to 25%.

3. Subtract the Monthly Expenses from the Monthly Rent (= Net Income): This is your monthly cash flow. Yay! Hopefully it’s positive. If it’s not positive, run.

4. Calculate the Returns: Two numbers I want to see on any property I evaluate are the Cap Rate and the Cash-on-Cash Return.

  • Cap Rate– This gives you an idea if you are buying the property at a good deal. It basically compares the return on investment (ROI) to the purchase price.

The Cap Rate equation:

Net Annual Income / Purchase Price = Cap Rate

NOTE: I don’t include the mortgage payment in this calculation.

  • Cash-on-Cash Return- This number is how much return you are getting on the money you invest. If you pay all cash for a property, this number will be the same as the Cap Rate. If you are financing, this number is the most accurate way to see the actual return you are getting on your cash-in and the leverage. Here is the equation, and remember to include the mortgage payment since this one is totally focused on financing:

Net Annual Income / Total Cash Invested = Cash-on-Cash Return

Understand the difference? One is a measure of how good of a deal you are getting on the purchase price and the other tells you the exact return on your money you are getting. They are the same for an all-cash buy but can be very different for a leveraged purchase.

If you compare the Cash-on-Cash Returns of an all-cash buy versus a financed buy. You may quickly see the benefit of leveraging! Way more bang for your buck! Try it out on a napkin sometime.

Displaying blog entries 1-2 of 2

Contact Information

Photo of Harold Powell Real Estate
Harold Powell
RE/MAX Gold Coast Realtors
5720 Ralston St. Ste. 100
Ventura CA 93003
(805) 339-3516