By Peyton Zachrich - What are the Major Costs, and What Makes them Bigger or Smaller?
Your mortgage is normally your largest expense. It's impacted by how much you owe, the interest rate %, and the amortization period. See the story about mortgages to learn more.
Your property taxes typically range from 0.5% to 3% of the value of the property per year, depending on where you invest. Before buying something, always look up the local property tax rate on the county auditor's website and multiply by your purchase price to calculate what your property tax expense will be.
Insurance tends to be 0.5%-1% of the property value per year, depending on where you invest and what deductible you choose. It's wise to get quotes from a few different insurance agents to know what this expense will be before you purchase an investment.
Vacancy refers to the missed rents from the time that your property sits vacant in between tenants as you repair it and try to find a new renter. A rental is usually vacant 5-10% of the time, so if you have a house you rent for $1000/month, you should budget $50-100/month for "vacancy expense".
If you hire a property manager to manage your rental property, you normally pay 5-10% of rents as your monthly management fee. You also normally pay 0.5-1 month's rent as a fee to them when they lease the property to a new tenant. If you don't hire a property manager, you should still budget for this to compensate for your time and in case you need to hire one in the future.
From time to time you'll have to pay for a new $6000 roof, a $3000 furnace, a $1000 hot water heater, and dozens of other items. Remember that you are responsible for always providing a home in good condition to your tenant. We recommend budgeting at least $250/month for capex for a single family rental, and having "capex reserves" of at least $10k set aside for large unexpected expenses if you own a rental.
Unlike capex, where we expect to replace things that are at the end of their useful life, repairs and maintenance covers the things that arise from damage. For example, someone flushes paper towels down the toilet and you have to call a plumber to clear the drains. Most people budget 5-10% of monthly rents for this, depending on how well their renters take care of the property.
With some investments you will only need to pay for utilities when they are vacant, but for others you will pay for certain utilities that your tenants use. Make sure to find out from the seller and calculate what these will be before buying an investment.
There are other types of costs to investing in real estate. For example, increased tax preparation expense, gas to drive out to the property, monthly HOA fees if you buy a condo, and possibly even administrative/registration fees to the city in which you invest. There are always some costs you won't expect, so make sure that what you buy has enough cashflow to give you some margin of error.
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