Tips to Estimate and Budget for Your Rental Property

For many landlords, budgeting is something that happens as an afterthought. After all, there are plenty of tasks to do as an investor, and between overseeing the day-to-day events with the rental and the bigger responsibilities that are on your plate, you may find that budgeting is something that gets overlooked or pushed to the wayside.

But budgeting is an important part of rental investing, and it’s one tool that can help to keep you on track and working towards your big-picture goals. Without a clear budget, you can easily spend more than what you’re making and could be seeing potential profits slip away. 

If you’re a landlord and you want to learn how to budget, what should be included in your rental property budget, and how to budget for success, then this article is for you. In it, we’ll uncover why budgeting matters, and show you some simple steps that you can take to get started.

Why Budgeting is Important for Rental Property Owners

Budgeting, when it comes to rental property investment, refers to the process of planning and managing the financial aspects of owning and operating rental properties. The goal of budgeting is to ensure that the property remains profitable today and in the future. This involves estimating and allocating funds for various property expenses, such as mortgage payments, property taxes, insurance, maintenance, and repairs while considering the income generated from rent.

With a budget, you can do the following:

• Forecast Income and Expenses: A budget allows you to estimate rental income while accounting for regular expenses and potential vacancies. It’s about balancing the cash flow to ensure expenses don’t exceed income.

• Plan for Maintenance and Upgrades: Part of your budget should focus on maintaining or upgrading your properties. A well-maintained property can help to stave off certain bigger, more costly repairs and can help to keep tenants happier as well.

• Set Aside Reserves: Creating a financial buffer for unexpected costs such as emergency repairs, vacancies, or legal fees helps to keep you from being caught off guard should something unexpected arise.

• Assess Profitability: A budget reflects important performance indicators, including return on investment (ROI) and cash-on-cash return. Having this information handy helps you make informed decisions about keeping, selling, or expanding your property investments.

• Tax Planning: Rental income is taxable, but you might also qualify for deductions for expenses like repairs. Tax implications can impact your investment’s profitability.

See: How to Maximize Your Rental’s Profit Potential for more advice on improving your rental’s bottom line.

When to Budget for Rental Property Expenses

Budgeting is not a set-in-and-forget-it task. It’s an ongoing process that requires regular updates, especially in the constantly changing world of real estate. While budgeting can be a useful tool for investors to use at all stages of their investment journey, there are a few cases where it’s especially important for rental inventors to create a budget.

1. Before Property Purchase: Budgeting begins even before a property is purchased. This is when you assess your projected income, calculate the down payment and closing costs, and estimate potential renovation expenses. At this time, it’s important to run the numbers and analyze whether the investment aligns with your financial goals. Understanding the local rental market, average rental rates, and occupancy rates during the initial budgeting is also essential. It can help you to gauge the property’s potential profitability.

2. Annual Review: Once a year, usually at the beginning or end of the year, landlords should conduct a thorough review of their property’s financial performance. This includes analyzing income, and operating expenses, then comparing them against the initial projections. Annual budgeting could also give you an idea about whether it may be time to adjust rent prices. While you’ll also want to carefully consider current market trends before increasing the rent, noting that you’re taking home less profit thanks to increasing expenses could be an indicator that it may be time to think about raising the rent the next time you have an opportunity.

3. When Tax Rules and Rental Laws Change: Landlords should adjust their budgets when there are changes in tax laws or government policies that affect rental properties. This might include adjustments in property tax rates, changes in deductions for rental properties, or rent control laws.

4. During Economic Shifts: During downturns, landlords might need to budget for lower rental incomes or higher vacancy rates. Conversely, during economic booms, account for rent increase opportunities.

6 Steps to Create a Rental Property Budget

Step 1: Pinpoint Your Income

To create a budget for your rental property investment, begin by thoroughly assessing your income sources. This includes:

• Rental Income: Determine the annual rent that you’re generating with your rental property. 

• Utilities and Services: If you provide utilities or services for your tenants (e.g., water, electricity, internet, cable, etc.) that tenants reimburse you for, you can include the income generated from these sources in your budget. 

• Additional Rental Income: Include additional income sources, such as parking fees, storage fees, or pet fees.

• Rent Increases: If you plan to increase rent for existing tenants or have built-in rent escalation clauses in your lease agreements, factor in the additional income you’ll receive from these increases.

• Government Subsidies: If you participate in government housing programs, such as Section 8, include the subsidies you receive from these programs as part of your rental income.

Step 2: Estimate Operating Expenses

Every property comes with its share of bills. But you’ll want to make sure your expenses are being offset by the rental income, and that you’re still generating a profit at the end of the day. 

Here are some expense-tracking tips for creating a budget.

Compile Existing Records: Gather all financial records related to the rental property. This includes receipts, invoices, bank statements, and expense reports. Having these documents on hand will make identifying and categorizing expenses easier.

Categorize Expenses: Divide your operating expenses into categories to create a structured budget. Common expense categories for rental properties include:

• Property-Specific Expenses: Consider any unique expenses related to your specific property, such as elevator maintenance, swimming pool upkeep, or amenities provided to tenants.

• Repairs and Maintenance: Regular maintenance is an investment in your property’s upkeep and tenant satisfaction. Allocate funds for routine upkeep like painting, plumbing, HVAC servicing, and unexpected repairs. A proactive approach with maintenance and repairs can help you to stave off many problems down the road. 

• Property Management: If you use a property management company, include their fees in your budget. Property management fees typically range from 8% to 12% of the monthly rent.

• Insurance: Include both property insurance and liability insurance in your budget. Your insurance premiums may vary depending on the property’s location, type, and coverage.

• Property Taxes: Property taxes are a significant expense for landlords. Ensure you budget for these taxes based on the assessed value of the property and the applicable tax rate.

• Utilities: Estimate the monthly costs of utilities you are responsible for, such as water, sewer, trash, gas, and electricity. These costs can fluctuate seasonally, so consider historical data.

• Mortgage or Loan Payments: If you have a mortgage or loan on the property, factor in the monthly principal and interest payments. Be sure to distinguish between interest and principal, as the latter contributes to equity.

• Legal and Professional Fees: Budget for any legal or professional fees you anticipate concerning the property, such as attorney fees for lease reviews or accounting services.

• Advertising and Marketing: Allocate a budget for advertising vacant units, tenant screening costs, and marketing expenses to attract potential tenants.

• Administrative Costs: Include any admin-related expenses such as software subscriptions.

• Miscellaneous Expenses: Set aside a small portion of your budget for unforeseen or miscellaneous expenses. This serves as a buffer for unexpected costs.

• Contingency Fund: Consider starting an emergency fund within your budget to cover unforeseen expenses or economic downturns. This reserve fund provides a safety net for your investment.

Analyze Past Expenses: Review your historical expense records for the property over the past year or more. Look for patterns and trends in your spending to help you estimate future costs more accurately.

Estimate Future Expenses: For expenses that may vary from year to year, like repairs and maintenance, estimate the annual cost based on historical data and property condition. It’s better to overestimate slightly than underestimate and be caught off guard, so be generous to ensure you have a buffer.

Annualized Expenses: Once you have estimated monthly or periodic expenses, annualize them to calculate your total annual operating expenses.

Step 3: Account for Vacancy and Turnover

Vacancies and tenant turnovers are an unavoidable part of the rental game. Prepare a financial cushion, typically around 8-10% of your annual rental income just to be safe, to cover times when your property isn’t generating rent. Don’t forget to set aside funds for cleaning and minor repairs during the turnover process.

Step 4: Budget for Big-Ticket Upgrades

Major property upgrades or replacements, also called capital expenditures (CapEx), are those bigger expenses that come along every once in a while. Regularly contributing to a CapEx fund means you won’t be caught off guard when the time comes for big renovations or essential replacements.

Begin by identifying potential CapEx items such as roof replacements or major renovations. Research and gather cost estimates for these items, taking into account their expected lifespan and when they are likely to require attention. Then, you can calculate the annual budget needed by dividing the estimated cost by the expected number of years until the expenditure. It’s best to keep these CapEx funds separate from regular operating expenses. Keep them in a dedicated savings account that you can’t easily touch.

Step 5: Get Savvy on Tax Strategies

Rental income taxation is a complex field. Make sure you’re leveraging all possible deductions, from mortgage interest to depreciation. Staying informed on tax laws or consulting a tax professional could lead to significant savings and a more profitable investment.

If you want to learn more about rental property taxes, read Prepping for Tax Time - What Landlords Should Know.

Step 6: Embrace Digital Tools

Digital budgeting tools provide time-strapped landlords with a hassle-free budgeting and forecasting experience. When your finances are organized and accessible, you’re more likely to dedicate time to budgeting. Here are three digital tools that rental property managers can use for budgeting: 

• QuickBooks is a widely recognized user-friendly accounting software that offers a variety of budgeting features. It allows landlords to create and manage budgets for their rental properties, track income and expenses, and generate financial reports.

• Zoho Books is cloud-based accounting and budgeting software. Landlords can access it from anywhere with an internet connection, and it offers features suitable for rental property owners. It provides tools for expense tracking, income management, and budget creation.

• PlanGuru is a budgeting and forecasting software designed for businesses of all sizes, including landlords. It offers comprehensive budgeting capabilities, financial analysis, and forecasting tools. With its more advanced features, it can be beneficial for property owners who want in-depth budgeting and financial planning.

• Mint is a personal finance app, but it can be a useful tool for budgeting and keeping on track with your rental investments as well, especially if you’re just getting started. This tool offers a free version or subscription for you to choose from. 

Your budget shouldn’t be something that you set and forget. The best budgets are living documents that change as your goals, needs, and circumstances do, so be sure to revisit your budget frequently to stay on track. 

Want to ensure you’re getting best returns on your rental? You’ll want to make sure you’re charging the right rent. Curious how much you could be getting for your property? Get started with the Renters Warehouse FREE Rental Price Analysis today.