Many people believe that owning rental property is a great option because it provides you with access to passive income. While it is great to have stable renters, there is a significant amount of active management that goes into a successful real estate portfolio. One of the most important tasks you need to consider is the growth of an emergency fund.
You need to have an emergency fund set aside because you may have big-ticket expenses that pop up unexpectedly. What are a few examples of emergency expenses you need to budget for, and how much money should you keep in your emergency fund?
Potential Disasters You Need To Prepare For
First, there are some potential disasters that your emergency fund should cover. While you may think that these damages are covered by home insurance, the out-of-pocket expenses can still be significant. Some of the examples of potential disasters you should budget for include:
Wind, Hail, and Fire
When a severe storm comes through, your property could get damaged. For example, wind damage can rip shingles off of your roof and break your windows. Hail damage can also cause significant harm to your roof. There might even be a fire that breaks out on your property, leading to significant damage.
While much of this damage should be covered by your home insurance policy, you may still have a significant deductible that you need to pay. Make sure you have enough money in your emergency fund to cover that deductible.
You probably want to get as many years out of your appliances as possible, but if a large appliance disaster takes place, you must be prepared to replace it immediately. For example, repairing your HVAC unit could cost a few thousand dollars, but replacing it could cost even more money.
If something happens to your water heater, that repair could cost $1,000 as well. Or, if you need to replace the entire water heater, that might be a few thousand dollars.
As a property owner, you may be responsible for kitchen appliances as well. Make sure you understand how much a new refrigerator, stove, or oven might cost, and have enough money set aside to cover the expense.
Replacing the Roof
As alluded to above, roof damage can be expensive. You should have enough money set aside to repair or replace your roof in the event something goes wrong. The size of your roof will have a significant impact on its cost, but it is not unusual for a property owner to spend more than $10,000 replacing a roof. You should expect to get several decades of use out of your roof, so if your roof is damaged, you should talk to an expert who can help you decide whether to repair or replace it.
Preparing for a Prolonged Vacancy
You should also have money set aside in the event of a prolonged vacancy. Regardless of whether you own a vacation home or a long-term rental, vacancies could happen from time to time. Regardless of whether you have people living on your property, you will still be responsible for your mortgage payment, property tax, and property insurance.
Many real estate investors call this “PITI,” which stands for principal, interest, taxes, and insurance. You should have enough money in your emergency fund to cover several months of PITI, because you do not know how long it will be before you can get another renter in the home. Keep in mind that you may also be responsible for utilities and lawn maintenance when the property is vacant.
How Much Money Should You Have in Your Emergency Fund?
So, based on all of the information mentioned above, how much money should you have in your emergency fund? Many people recommend having enough money to cover at least 6 months of expenses related to the property. You might want to have some additional money in the emergency fund as well to cover some of the disasters and emergency repairs mentioned above.
Keep in mind that everyone is a bit different, and the amount of money in the emergency fund may vary depending on whether you have a long-term rental or a vacation property. Once you have paid off the mortgage, you may not necessarily need to have as much money in the emergency fund, but you still need to have some money set aside to cover other expenses.
How Do You Build Up an Emergency Fund?
As you start doing the math, you may realize that this emergency fund is several thousand dollars. Depending on the size of the house, it could even be more than $10,000. How do you go about building up this emergency fund?
While it would certainly be nice to have this money set aside as soon as you purchase the property, many real estate investors do not necessarily have that much money left over after purchasing the property. You may want to create a separate account and deposit a few hundred dollars per month into that account, gradually building it up over time. If you have a property manager helping you manage the property, you may want to ask the property manager to create an escrow account that allows you to build up your emergency fund.
Work With Hard Money Lenders AZ for Your Next Real Estate Purchase
There are a lot of expenses that come with owning a rental property, and you need to work with an expert who can help you manage the financial aspect of your rental property every step of the way. This includes finding the right loan package to meet your needs.
At Hard Money Lenders AZ, we have a significant amount of experience working with property owners of all backgrounds, and it would be our pleasure to help you finance your next rental property purchase as well. Contact us today to speak to our team and get the process started.