Investors: Don’t Ignore Deferred Maintenance—A Silent Cash Flow Killer
Real estate investing is a numbers game—and sometimes, you might be tempted to save money by ignoring “unnecessary” repairs. Does a broken gutter really matter? Why drop $200 on a plumber for such a tiny leak? Ignore the expense, save a few bucks. That deferred maintenance increased your cash flow… and you’ll deal with the problem when it’s really a problem. Great, right?
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Not so much. When you defer maintenance to save dollars, you might as well place that money in a box next to your fireplace to use as future kindling. Your cash flow is going up in smoke.
What is deferred maintenance?
Deferred maintenance can be an absolute killer for an investor looking to build a reliable passive income. And it can catch you by surprise even if you haven’t been been ignoring needed repairs. Purchasing a property with lurking, undisclosed deferred maintenance puts future cash flow at considerable risk.
Think of your property the same way you think about your health. Recently, I visited my doc for a strep test. While there, he performed all the usual tests, we chatted about my fitness, and he declared me fit as a fiddle. (Plus, the strep test was negative!) When we visit the doctor, we proactively address potential problems down the road, which otherwise might cost us big bucks in medical bills.
Same goes for your home. I’m worried there may be an epidemic of misinformation among investors—and lost cash flows to come. Here’s why.
The big costs of big-ticket assets
We recently hosted a group of foreign investors touring the country visiting good markets for cash-flow properties. By far the worst thing we heard was the explanation they had received of the “American” way to invest. They had been told that in America, we do not spend a buck on maintenance or repair that we cannot recoup on rent. They called it getting the property “rent ready.”
So when the investors had asked about cracked electrical covers, they were told new plate covers would not lead to any additional rent. Missing handrails on the steps outside? Replacing them wouldn’t raise the rent. And when they asked about the dust and duct tape on the rusty furnace, they were assured that it had been serviced and had plenty of years left. No need to replace it now—it will only reduce your cash flow
I was appalled. Yes, there are different renovation levels. Are you flipping in a nice neighborhood? Or renovating a Class C property for rental? Overspending on the wrong, lower priority status items can set your return back, but still should not eat into your monthly cash flow. But when it comes to big-ticket items such as roofs, furnaces, water heaters, electric panels, and plumbing, investors should always seriously consider spending the extra dollar. These are the types of items that are easy to ignore. You might even convince yourself that a $200 repair bill is better than a $1,500 replacement.
But that $200 repair bill can make a full month’s cash flow disappear—and eventually, you’ll still have to pay for a replacement. That’s the real cost of deferred maintenance. In many instances, merely maintaining a system could cost twice as much as a simple replacement. Combine the two costs and an entire year’s return can be lost.
Secure your cash flow
Whenever you purchase a property, make sure you have a plan in place to address the big-ticket building components, like HVAC, plumbing, electrical, and roofing. During your due diligence period, pay attention to what has been repaired, what has been replaced, and what hasn't been addressed.
If you can’t get that information—no matter how good the deal looks—you can’t make a good decision.
And don’t let the idea of deferring maintenance trick you into a no-good deal. Looking for ways to make the deal stronger by cutting back on needed repair work is a sure-fire way to make that deal weaker. These items will eventually need to be addressed, and it costs a lot less to address them on the front end.
Prevent surprise expenses and emergency repairs
But preventing deferred maintenance from screwing with your budget goes beyond paying attention pre-purchase. It’s important to regularly survey your property and make sure that your major systems are working. Does your roof have any leaks? What about machinery like your HVAC system, elevators, or any other resources necessary for large facilities such as apartment complexes?
Know what maintenance activities are necessary for each of your properties. Single-family homes will have different requirements from duplexes, which will have different requirements than apartment complexes or storage facilities or senior apartments. For larger properties, ensure all superintendents or facilities managers know to conduct regular audits as part of normal operations. And if you're dealing with smaller properties, you or your property manager need to make the rounds regularly and perform standard maintenance tasks.
Any maintenance you do should be proactive, not reactive maintenance. Of course, sometimes things break and really do need small fixes—we’re not suggesting you replace a new HVAC system because an easily replaceable valve failed. But detailed maintenance plans both ensure said small problems are caught early on and establish a money-saving routine. Note when you need to replace filters or prepare your plumbing for winter, and don’t neglect these minor tasks. A preventive maintenance plan ensures you won’t have maintenance issues leading to major repairs later on.
Pay attention to CapEx
Now that you understand why maintenance should never be deferred—and that you shouldn’t hesitate to replace major systems as soon as critical issues are noted—it’s time to discuss how to pay. Enter: capital expenses, commonly known as “CapEx.” In short, CapEx is the amount you should set aside for each property each month to ensure you’ve got the cash to pay for major maintenance work as soon as it’s necessary.
Knowing exactly how much you should set aside for CapEx can be a struggle. (That’s why we’ve put together a guide to helping you figure that number out!) Different properties have different needs—an old apartment complex will likely have much larger CapEx requirements than a new single-family home.
In short, you’ll need to write down all the major systems. Note their age and condition. How many years will the roof last? (If you don’t know, look up its expected life cycle and subtract the number of years since installation.) How much will it cost to replace? Divide the future costs by the years left, and you’ll know how much to set aside each month for the roof.
Yes, as a real estate investor, you’re often dealing with limited resources. However, you still need to address system failures in need of immediate attention. And if your current budget doesn’t provide enough additional funding to cover a surprise, it’s time to start squirreling away extras. After all, a smart investor is always prepared—no matter what might happen.
How do you prevent deferred maintenance from affecting your cash flow?
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