Don't forget these costs when analyzing deals
They're often easily overlooked, but you don't want to forget about them
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When a potential rental property is being analyzed prior to the acquisition, most people don’t forget the major expenses — mortgage principal, mortgage interest, property taxes, insurance, etc.
More often than I’d like to see, investors forget — or choose not — to include reserves, such as vacancy, repairs & maintenance, and CAPEX, which are important to not forget, but there are costs that are even more frequently overlooked than those reserves.
They are ancillary costs.
According to Oxford Languages, ancillary is defined as providing support to the primary activities or operation of an organization, institution, industry, or system.
In your rental real estate business (and yes, it is a business!), these items often include temporary utilities, short-term landscaping, tax preparation, minor touch-ups, etc.
I recently bought a property where the lawn was fine when the property went under agreement.
As real estate transactions typically do, it took a few weeks to close. Since I am BRRRR’ing this property, after closing, it was another 3-4 weeks before much activity would be taking place at the property. The windows were ordered right away and I was just waiting for them to be installed.
When my rockstar agent went to the property to check up on it for me and send me pictures of the new windows and HVAC system, this is what the lawn looked like:
Not really a huge deal overall, but, it did cost $75 to have a landscaper go out and clean up the yard. More importantly, the city where this property is located fines the owners of properties where the lawn gets too long. Thankfully, this was caught before that became an issue, but if it hadn’t been caught, that ancillary expense could have come into play as well.
Poll
If you start a new book, read the first ~50 pages, and you don’t really like it, or aren’t gaining much value from it, do you:
A. Keep reading
B. Stop reading
Also, since there is work being done at the property, and tenants wouldn’t be living there right away, I had to call the utility companies to have electricity and gas kept on, or turned on, and the city to transfer of water/sewer. The electric company requires a $200 down payment to start service.
Again, this isn’t a massive dollar amount by itself, but I just closed three deals at the same time and they all had the same issues. Now you’re looking at ($75 + $200) x 3.
Tax preparation is another ancillary cost that’s often missed. Please remember, I’m not a tax professional, but from what I’ve seen in my experience, many people don’t know that if you buy a property with a partner, you frequently need to issue K-1’s. K-1’s and related tax filings can cost upwards of $1,000-$1,200 per partner. That cost can be quite material to your property’s bottom line if it isn’t generating a lot of cash flow. For example, I own properties that achieve 30%+ cash-on-cash returns, but since they’re relatively low-priced properties, that’s only $4,000-$5,000 in annual cash flow. Imagine having to pay nearly half of your cash flow away for tax preparation and not include that in your initial analysis?
I personally prefer to not get into the weeds of these ancillary costs when I’m analyzing deals. The way I cover these costs is by running my analysis conservatively and having a high benchmark for my required return. If ancillary costs eat away at some of my return, it is still an acceptable level because I set my benchmark high to begin with.
All the best,
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