Bryan, I feel like I'm familiar with your business (not saying I am, just that I kinda fell it, if ya know what I mean).
Private investors that you may have or seek to have will prefer doing business if they know you can take them out of a deal. Doesn't mean it's a reserve requirement, it means having others ready to step into thier shoes. OTH, having assessed the risk of default from your borrowers, I suggest 6 months coverage in addition to 15 to 20% to make up any difference in liquidity. Meaning, you can borrow money to take out a private lender at 80% from another investor and acquire 20% in short term financing from your reserves or other assets that can be moved in 30 days...most private investors will be happy getting out in 30 days. If you do have non-recourse debt, I would not consider that as an alternative to walk out on anyone or a strategy, cover the debt as any other, IMO.
6 months debt service should be sufficient for conventional financing. This depends to on the size of your portfolio, what's the chance of something happening that hits every loan? So, I looked at 25% of the total
at 6 months and that can flutuate some, like over a thirty day period arisng from float and maturities. it should not just be setting there.
While most probably are not there, one year for reserves for your personal life is really the goal, your personal financial security should not be milked by a poor quarter, IMO.
Liquid assets, cash, should be utilized in short term uses. You should implement a maturity distribution for funds. Easiest way to explain this is having say 25% in CDs maturing in three months, so that every three months money is readily available. Timing your obligations to scheduled maturities is a trick but will allow you to reduce reserves providing options.
Assessing what reserves should be is really born out of assisng various risks.
Maturity of obligations and events that reuire payoff before they are contractually due is a management decision and should lean toward meeting demands, even if you are not required to do so....your reputation is your most valued asset. Some 80 year old lady does not care what your contract says if she really wants he money for an operation!
Risks such as vacancy, really stand on the market, worst case, what's the vacancy going to be and are you properly insured so that an insurable loss does not put you behind, check and make sure you have loss of rent coverages. Otherwise, your market should reflect the risk and stagering your leases will reduce larger vacancy rates at one time. 20% of the portfolio debt service should be allocated as a minimum.
Rehabing, reserves are really on a case by case basis at the time and I don't see you actually participating in such matters, but to the extent as a financing conduit, so refer back to the 80% refi thoughts.
I might be rambling now.....but reserves should be assessed to the risk assumed less amounts that can be transferred, to an insurance company or to other investors of by selling of refing the deal.
Each aspect or portfolio represents a risk where reserves should be set. From this total risk, look to ways of financing or leveraging that contingent liability at that 80/20 ratio, in other words, you don't need 8,000 reserves for rentals, 12,000 for loans, 30,000 for investors, since the likelyhood of all of these aspects would not be due at the same time. Be able to borrow and move reserves to manage 80% (40K in the example) of the total and have 20% in you cash, on hand reserves or 10K.
As this grows, say over 100K, you can begin reducing the per centage, from 20% down, but I would never dip below 15%.
Compare this too, as you said, in your debt/income ratio to command reasonably expected earnings to cover unforseen expectations. As you earnings increase and cash flow becomes large enough, reserves can then be palced in other uses or invested for longer terms. Moving such funds out to a three year and five year schedule might be something to look at.
OK, good luck.....
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