Liquid Reserves: The Lifeblood of a Rental Portfolio

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Over the past three years that I’ve been in the rental business, November 2012 went down as one of the most expensive months to date.  Whether it’s deferred maintenance, general wear-and-tear or vacancy related costs, the reality is holding that rental property is not cheap.  Curious what my last month looked like?  Here are a few highlights with notes:

Here are a few highlights with notes:

10.6. 12:  Tenant in Glenwood property late on the rent ($550).

10.9.12:  Work order on Auburn Duplex – re-pipe one unit ($3,400).

10.11.12:  Work order on Baylor property – replace water heater and garage door hinges ($705).

10.22.12:  Work order on Berkley property – fix leaking toilet and repair damage from leaking roof ($465).

10.25.12:  Work order on Cedar property – furnace servicing ($235).

10.29.12:  Vacancy in Cherrywood property – 2 months revenue loss ($1,860).

If you’ve been keeping count, that’s a grand total of $7,215 in additional expenses.  I should mention that most months I don’t hear from my tenants and things run on auto-pilot, but on occasion I have a month where all hell breaks loose.  It’s easy to see how failing to hold a sufficient amount of cash reserves can easily wipe out an investor’s portfolio.

Whether in liquid cash or in available lines of credit, reserves are essential to keeping a healthy rental portfolio.  Out of curiosity, I spent a few hours browsing the threads here on BP and I came across differing philosophies on the matter.

I’ve generalized the various approaches into three separate categories below:

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Three Views: How Much Liquid Reserves Should I Have For My Rental?

The Gambler:  This is the investor who has little in cash reserves.  They’re likely to use mainly lines of credit and little, if any, cash.  Their philosophy is to reinvest all positive cash flow back into their business in order to acquire new properties.  This might sound risky to some readers, but if executed prudently, it can be a great way to rapidly grow a portfolio.

For example, if you have $25,000 held in the bank for cash reserves, you would be earning ZERO dollars in interest.  “The Gambler” on the other hand would rather hold the reserves in a home equity line of credit where the capital is still earning interest (in the form of cash flow) and allows them to use their liquid cash to fund additional deals.

The big downside here is that banks can change their policies at will and if the line of credit has not been pulled, this investor might not be able to access the credit if cash were needed.

Average Joe:  This investor likes formulas and rules of thumb to determine the amount of cash they should have on hand for their rental business.  I’ve rolled a few of the more prominent ideas below:

  • Keep 3 months of mortgage payments, per property
  • Keep 6 months of mortgage payments, per property
  • Maintain $2,000 in cash, per unit
  • Maintain $5000 in cash, if you own less than four single-family homes
  • Maintain $10,000-$15,000 in cash, if you have more than 5 but less than 10 single-family homes

“Joe” keeps his reserves in a separate bank account specifically for his rental business and does not co-mingle his personal accounts with the business.  This might seem like an obvious point, but many new investors never open a separate account and have no idea how much money they are making or losing each month.

The Goodie Bag Investor:  “The Goodie Bag” investor doesn’t hold all their reserves in cash or in credit lines, but uses a combination of the two philosophies listed above.

Typically they have a dollar amount they feel comfortable with (let’s say $25,000), so they would keep $15,000 in liquid cash deposited in the bank and hold the additional $10,000 in a line of credit.   The goal for this investor is to always maintain $25,000 on hand.  Once the reserve is met, they will divert the excess cash to different ventures within the business – direct marketing, new acquisitions, etc.
On a personal note, I most identify with the last strategy.  I feel it maximizes security without tying up too much capital.

I still think owning rental property is the best way to build long-term financial security, but I’ve also been doing it long enough to know that expenses are a very real part of the business.  In closing, I’d like to quote a fellow BP member, Jon Halderman, because I feel his quote sums up my philosophy best:

“…I think having sufficient reserves to weather a downturn is more important than adding to your business.  If a furnace fails in the middle of winter, you MUST have cash or credit to get that working ASAP… failures or sudden tenant move-outs can happen at any time.  If you can’t cope with that, your rental business will crater when (not if) this happens.”

Readers:  how do you determine the amount of cash you have on hand for reserves? Leave a comment below!

Photo: Ian Roberts

About Author

Arthur Garcia (Google+) Arthur is a buy and hold investor in Southern California who is buying up dozens of homes while working a full time job. Arthur acquires properties using a combination of hard money, HELOCs, partnerships and private investors.


  1. If I had to classify from those listed I would fall under gambler. I bought my 1st duplex where I still live in 2006. Since then I have added to that 3 more duplexes and a single family. I still have a day job and intend to for a about a decade yet. At 27 currently, I think it would be fantastic and more than doable to be full time by 40.

    On the Gambler strategy, I have low cash reserves but I take on no other debt and have a very healthy monthly cashflow to build up cash with. I buy property’s at a discount because they need work. So I make money on improvement returns, cash flow from renting, and at purchase because no one else wants the work. This year I have done a roof, built a garage, new driveway, new windows, 2 sewer stacks, one large gut to transform bathroom and entryway layout, siding, and tree removal to name some off the top of my head. Once I purchase a property I assess every need and proactively attack repairs and improvement projects. This keeps my cash reserve needs low. I assess the roofs, windows, water heaters, and furnaces as well as major appliances to I know the likelihood of their failures. I had a water heater go out a couple months back and a sewer backup the just this weekend that was unexpected for the most part. But in both cases it was a know possibility. The water heater was old and with the new one we should have a solid 10 years of limited worry. With the sewer it was roots but that was possible since we bought it with trees within 10 feet of the sewer line, but now I have a treatment plan for that issue as well and it should not be a problem going forward. The closest I got to being burned was at my duplex where both furnaces needed to be replaced. I was able to work a good deal and it kept us tight for a month but ended up having just enough cash laying around to cover.

    I do intend to build up a set cash reserve going forward but I have not made it a priority yet. So far keeping expenses low and properly managed has worked wonders.

  2. I probably fit into Average Joe. I have a certain target amount of cash I like to hold. And I definitely have a different bank account to manage real estate. Heck, my real estate account is at a separate bank. Makes it harder for me to transfer money, providing a psychological barrier. If I need to transfer money, I need to write a check and go to bank or the other.

  3. I keep 6 months worth of expenses (all expenses including mortgages, taxes, and personal) in reserves. Although, I all but $5,000 of this into a very conservative mutual fund that averages a 5% return (and by very conservative, I mean I’ve only seen it drop 1% one quarter out of the past 4 years I’ve been doing this).

    Another important note that I think a lot of investors forget about is planned maintenance expenses. Too many investors wait until the need a roof and then pull from this reserve fund. I use my reserve fund as an emergency/worst case/what if fund. If I know I have a big upcoming maintenance item, I’ll plan save and budget for it.

    I think using a credit line as reserves is pretty dangerous, especially since most investors who do this are already leveraged beyond belief. What if you tap into your credit line for repairs and vacancy on one property, and a month or two later you need a $5,000 furnace on another property. You dig yourself further and further in debt.

  4. My wife and I fall into a combo of 2 and 3. We have a certain threshold of reserves we meet, anything over that goes into a high interest bearing investments until its time to pick up another property. With the addition of extra savings accounts within an account at our bank, we have long term maintenance reserves auto transferred each month.

    We are still tweaking the process as we learn and grow as investors. This year we will be putting together a long range maintenance and improvement plan to help prepare for yearly expenses in advance. At the moment its rather haphazard.


  5. I have a home equity line of credit on my primary residence that I keep nearly paid off (just enough so they don’t close it on me) that covers mortgages, taxes and emergencies on both of my properties for well over a year if needed. I also have a good day job and try to save up to cover things like down payments and repairs rather than dip into the Heloc. The Heloc is for emergencies only and so far I have not been tempted to use it for something like a down payment on another property.

    Right now I have a vacancy with needed repairs that I am able to cover with my day job monies. Anyway, it looks like I am pretty conservative with this approach but it works for me.

  6. Jeff Brown

    Good stuff, Arthur. I consistently turn down several potential clients every year, specifically due to the lack of what I’d characterize as a sufficient cash reserve fund. Error on the side of too generous. I tell them the white lie that they’ll sleep better at night with a large cash reserve. Truth is, it’s so I’ll sleep better. 🙂

  7. This was a great and informative post. I’m excited I can contribute now because I bought my very first property, a four family, this year. I didn’t leverage because my credit is caca. Plus, the thought of a mortgage payment that’s dependent on others to pay scares me.

    That said, I want to keep minimum 15% of the yearly rent roll in in liquid cash reserves. I also have money from the day job in case something big comes up (knock on wood). I have more than that 15% now (3x – not a lot because the monthly rent on each is low), It’s tempting to go the way of “The Gambler.” I don’t know. It’s easy to get excited when I see a great deal. I have to rein myself in by remembering the purchase price, the closing costs, the initial expenses to get it rent ready – especially since I don’t leverage.

    I have a whole separate checking and savings account for the LLC so I can’t co-mingle. I really like the tips on here. I’ve been learning a lot. Thank you!

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