\n<\/p>\n
What is ARV in real estate?<\/strong><\/a> You\u2019ve heard the term before but might not know what it means. ARV stands for after repair value<\/strong>, the value of a property AFTER you rehab, renovate, or upgrade it. While this metric may seem like something that only house flippers should care about, ARV is something that ANY rental property investor should pay close attention to because if you get it wrong, you could lose tens of thousands of dollars<\/strong>.<\/p>\n In this Rookie Reply<\/strong>, we\u2019ll show you how to estimate ARV<\/strong><\/a> and what common mistakes rookies make when calculating this crucial number. Then we answer how to <\/strong>write off repairs<\/strong><\/a> vs. <\/strong>CapEx (capital expenditures)<\/strong><\/a> on your taxes, and Ashley\u2019s easy answer when you don\u2019t know the difference between the two! Plus, why you should ALWAYS check your breakers<\/strong> when something goes wrong.<\/p>\n Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: Tony: Ashley: \u00a0<\/p>\n<\/div>\n Help us reach new listeners on iTunes by leaving us a rating and review! It takes just 30 seconds and instructions can be found here<\/a>. Thanks! We really appreciate it!<\/p>\n Interested in learning more about today\u2019s sponsors or becoming a BiggerPockets partner yourself? Email <\/em>[email\u00a0protected]<\/span><\/em><\/a>.<\/em><\/p>\n Note By BiggerPockets:<\/b> These are opinions written by the author and do not necessarily represent the opinions of BiggerPockets.<\/p>\n
This is Real Estate Rookie, Episode 336. My name is Ashley Kehr, and I\u2019m here with my co-host, Tony J. Robinson.<\/p>\n
Welcome to the Real Estate Rookie Podcast where every week, twice a week, we bring you the inspiration, motivation, and stories you need to hear to kick start your investing journey. Today, we\u2019re doing a Rookie Reply, which means we\u2019re answering questions from you, our audience. Ashley and I love doing these episodes because we get to talk to you guys. We get to answer the questions that are most pressing in your brains and your minds. Today, we talk a lot about ARV. I\u2019m not even going to tell you what that is yet because you guys need to listen through. We talk about the pitfalls of ARV, how to make sure you\u2019re doing it the right way, common mistakes we see new investors make, and pretty much just give you a masterclass on all things ARV.<\/p>\n
Then we\u2019re going to talk about repairs and maintenance and capital expenditures, what the difference is, what those things are, and different ways to navigate it. Plus, we\u2019ll tell you a couple personal stories of things that are going on with us and especially dealing with it on your short-term rentals. I want to give a shout out to Grant Warrington. That is Grant W-A-R-R-I-N-G-T-O-N. You can find him at Instagram on his name. He does a great job of teaching how to buy and fix apartments. He has some really cool Reels about different stuff, like the lights he uses for rehabs, why you should not paint the electrical outlets, and things like that. So go give him a follow and learn some stuff about doing a rehab.<\/p>\n
Last thing I\u2019ll say before we jump in, I\u2019m not going to read a review today, but I just want to encourage all of you guys, if you\u2019re a part of the rookie audience and you want to help us spread the message of financial independence through real estate investing, please do leave an honest rating and review on whatever platform it is that you\u2019re listening to.
Also, make sure to follow or subscribe. Those are triggers that platforms, like Apple Podcasts and Spotify, look at to gauge the popularity of a show. So if you are listening, make sure you actually subscribe within the platform that you\u2019re listening to so that Apple and Spotify know that you actually do enjoy the show. Because, again, the more folks that know about the Rookie podcast, the more folks we\u2019re able to help and hopefully inspire to go on this journey with us.
Not only do we want you guys to leave reviews, but we also want you to be a part of the Rookie podcast. So if you want to apply to be a guest on this show with me and Ashley, head over to biggerpockets.com\/guest, put in your application, and you just might be one of the stories that we get to share.<\/p>\n
And we love it when you include your wins or something you learned from the amazing guests that we have on the show. So please feel free to add that into the review. Okay, let\u2019s get into today\u2019s questions. The first question is from TC Cohen. \u201cWhat are ways or available software that a rookie can find comps in order to estimate a potential ARV of a property?\u201d ARV is the after-repair value, and the comps are other properties that are comparable in size, finishes to the property that you are looking for the after-repair value. So what this process is, this is where you\u2019re going to look at a property and you want to estimate how much it\u2019s going to cost to rehab, but you also want to estimate how much it\u2019s going to be valued at after the rehab is done. Because you don\u2019t want the rehab to cost $50,000, you\u2019re buying the property for $100,000, but after it\u2019s repaired, it\u2019s only going to be worth 120, but you put 150 into it. That\u2019s why it\u2019s important to find the ARV, the after-repair value.
One of the ways to do that is to look at other properties that have sold in the area that are comparable to the one you\u2019re going to be fixing it up. You also want to compare it to what the property will be after you do the rehab. So if you\u2019re putting in an extra bedroom, you want to find comparables that will be three bedrooms compared to two bedrooms as the property is now.
To start us off, one of the great resources that actually BiggerPockets has is Invelo. If you are a BiggerPockets Pro member, you get like $50 free to spend on there. They also have some free resources on there for you to find comparables in the area. That would be a great starting point. There\u2019s also similar software such as PropStream where you can get a free seven-day trial to actually look up a property that sold in your area. Tony, what are some of the resources that you\u2019re using?<\/p>\n
I think a free way for a new investor who\u2019s maybe never done this before is to ask your realtor or your agent. If you have an agent in that market, ask them, \u201cHey, I\u2019m looking at buying this property and doing this kind of rehab with it. What would your opinion be of the after-repair value?\u201d Depending on how busy the agent is, sometimes they might be able to give you an idea of, \u201cHey, here are some properties I\u2019ve sold recently, that I\u2019ve seen sell recently that are similar to your property that went for this dollar amount.\u201d So asking your agent.
If you know other real estate investors in that market, I think potentially getting your hands on an appraisal is one of the best ways to get that idea of the ARV for a property. Because not only do you get the appraised value of a property in that neighborhood, but you also get to see the methodology that the appraiser used to come up with that value. You can also see then the comps that the appraiser used inside of that appraisal. So I think some free ways are going to a realtor or going to other investors in that market that maybe have appraisals that you can use.
Then the other thing is you can look through Zillow. Zillow is definitely not perfect, but it does show you recently sold properties. You can kind of filter Zillow to look at properties that have sold in and around that area. So you can definitely use Zillow as a free tool. You just have to know how to tweak the data. Then a third software, Ash, I actually just got a free trial of this or maybe not even a free trial, I think I\u2019ve ended up paying for it a week ago, but it\u2019s Privy. Have you heard of Privy?<\/p>\n
I\u2019ve heard of it, but I\u2019ve never used it.<\/p>\n
I was just trying to do some comp work, and I said, \u201cLet me try out Privy.\u201d I haven\u2019t tried it before. It\u2019s similar to PropStream and I\u2019m sure Invelo as well. But I like the user interface just a little bit more, and it has a little bit of\u2026 I don\u2019t know if it\u2019s AI. I feel a lot people use the term AI pretty loosely these days. Basically, it has this kind of model that says, \u201cHey, I\u2019m looking for fix-and-flip properties that are at 70% of the ARV.\u201d It\u2019ll look at the properties in and around that subject property and estimate, where can I get to 70% of the ARV? So Privy\u2019s actually a pretty cool one as well.<\/p>\n
The only other ones I would mention are a couple free resources. Your local newspaper for your city might actually put out recent sold transactions. Here in Buffalo, it\u2019s the Buffalo News, and I think Buffalo Business First does it, too. They go back six weeks or whatever. So when you get the newspaper, it\u2019ll be from transactions from six weeks ago, I think. It will list all of the sold properties by town that their newspaper covers. It doesn\u2019t tell you how many beds, how many baths, anything like that. But you could take those properties, and then you\u2019d have to go and type in the address into Google. Especially if it was a property that was listed on the MLS, you\u2019ll be able to find how many bed\/baths, and if it\u2019s comparable. But you can check out the newspaper for that. Also, it\u2019s available online. Sometimes after you visit the newspaper website so many times they make you actually buy it. You can\u2019t just get the transactions for free.<\/p>\n
Ash, are you telling me you have the Sunday newspaper dropped off at your doorstep every week right now?<\/p>\n
No, I don\u2019t because that\u2019s why I try and go find it online so I don\u2019t have to pay for it. But I do get the Business one, that one I do. Then the other one is the OARS, which is O-A-R-S. A lot of cities and towns have this software available. The town actually chooses that they have this software. I had no idea what it stood for, but I googled it, and it\u2019s OPI Authorization and Reporting Systems. It\u2019s a information system that is actually created by the US government, and it puts out data about properties. So if you go to your town assessor\u2019s webpage, it may have a link to this. You can type in your property address. There will be a button there to pull comps, and it will actually give you a suggestion of what comparables are in the area based on approximate location to your property and bedroom\/bathroom count, and square footage. So I think that\u2019s a great starting point, especially for rookies who are maybe just looking for a couple of deals. They\u2019re not trying to run comparables on 50 properties a day. You can use these free resources or free trials before actually committing and paying for a subscription.<\/p>\n
Ash, should we talk a little bit about common mistakes that folks make when it comes to estimating your ARV, pulling your comps? Because I think it\u2019s easy to kind of get overly excited, I think, to start to pull comps for a property. So I think there\u2019s a few things to kind of button down. First is that when you\u2019re searching for comps, you want to make sure that your subject property and the comparable property\u2026 When we say comps, guys, we\u2019re talking about comparable properties. You want to make sure that your comps are like-kind, that they\u2019re similar to your subject property. So you want to make sure that there\u2019s the stories. You ideally want to take a one-story to another one-story, so you don\u2019t want to have a one-story home that\u2019s a ranch to a two-story Victorian or something. I don\u2019t know all my house types like that. One-story to one-story is ideal.
The years that they were built a lot of times can be a big factor. You don\u2019t want to take a house that was built in the \u201950s and compare it to new construction from 2023 because those are two totally different types of builds. Square footage, so if your subject property is 1,000 square feet, you don\u2019t want to compare that to a house that\u2019s 2,500 square feet or even 1,900 square feet. Lot size, if you\u2019re sitting on an eighth of an acre, like the houses are in my neighborhood, I can\u2019t compare that to Ashley who\u2019s sitting on 200. Two totally different value propositions there. Then obviously, bedroom and bath count are important as well.
Now there is some ways that you can up-adjust or down-adjust the numbers a little bit to say that, as you\u2019re looking for comps, maybe your subject property is a three-bedroom, one-bath, but there\u2019s a comp next door that\u2019s a three-bedroom, two-bath, so there\u2019s a little bit of\u2026 You want to decrease your value just a little bit because you\u2019re missing a bathroom. The amount you should decrease is hard to know. You got to guess a little bit unless you have some appraisers you can talk to or maybe real estate agents who point you in the right direction. But basically, if you\u2019re close, you can use it, but you still have to decrease it a little bit. So like-kind is one thing. Ash, what other common mistakes do you see when it comes to estimating the ARV?<\/p>\n
Yeah, those are all great points. I think another thing to add on to that is to really understand how assessors in your area are actually assessing the property value. If you\u2019re going to refinance or you\u2019re selling the property and somebody\u2019s going to be buying it, they will most likely have to have an appraisal done by the bank or you will if you\u2019re refinancing. You want to have some kind of comprehension of how they\u2019re actually calculating it.
If you\u2019ve seen on Instagram maybe before the memes of, \u201cOh, here\u2019s how a appraiser calculates,\u201d and it\u2019s just like, \u201cI\u2019m going to guess this number. There is no try and trued method they have.\u201d If you\u2019ve ever looked at an appraisal, it\u2019s almost like a chart. It will tell you what they are actually looking at as far as the appraisal. So they\u2019ll grade the kitchen as to is it poor condition, good condition, excellent condition. They\u2019ll also do that for the other ones. Then sometimes they\u2019ll put dollar amounts to it. This parcel has 10 more acres than the other one. Maybe they\u2019ll add $20,000 in value to the one with the 10 acres instead of the one acre, things like that.
But that can help you estimate and gauge what\u2019s going through the appraiser\u2019s mind. Obviously, you\u2019re not going to have the same exact appraiser as if you\u2019re looking at a appraisal report, but at least you\u2019ll get an idea of what\u2019s the list of things they\u2019re actually going to be paying attention to. For example, I did an appraisal on a property and they didn\u2019t count any of the sheds because they actually are removable. When you leave this property, you could lift those sheds up on a forklift, put them on a flatbed, and take them away with you to the next location. So since they weren\u2019t actually fixed to the property, they weren\u2019t counted into the appraisal and did not add any value as additional structures. So looking at those kind of things.
I recommend going onto Facebook right now or even Instagram and just, \u201cHey, does anybody I know in blah, blah city,\u201d where you want to invest in, \u201chave a copy of an appraisal?\u201d If you have real estate agent friends, ask them, \u201cHey, do you know anyone that has had an appraisal done?\u201d and you know them well enough they would give you a copy of it, whatever it is, and just go through and look at it. It\u2019s super informational to take a look at that.
Then the last thing I would suggest is, especially with how the market is changing so much within the past couple of years with going up and down, up and down and all over the place, make sure you are looking at actual sold properties and not pending. Just because the property went pending doesn\u2019t mean it has sold. It could fall out of contract. Also, you don\u2019t know what the actual sales price is when it\u2019s pending. Because even if they were asking $200,000, it doesn\u2019t mean that it actually sold for $200,000 or it sold for more than that. The last thing you want to find out is it actually sold for $150,000. So make sure it\u2019s a sold property, and it\u2019s within a good window of time.
If you have to expand your reach a little bit when you\u2019re looking at comps and go out a wider, what\u2019s the word I\u2019m looking\u2026 radius from where your property is, it\u2019s better to do that than to look at a property that sold two years ago when everybody was getting top dollar before interest rates shot up. So definitely taking a look at those things and making sure it\u2019s actually a sold property and not pending.<\/p>\n
Ash, you bring up two other important points about mistakes. It\u2019s the search radius, and it\u2019s the date range. I think you said it exactly in the same way that I view it in my mind and what my appraisers have told me as well is that the sequence is you want distance, similarity, and then date range, or, I guess, really similarity, distance, then date range. You want the similar properties and then as close you can get them within the most recent time possible. So similarity, distance, date range.
Like Ashley said, if I am buying in a suburban area where, again, each house is sitting on an eighth of an acre, I can\u2019t go out into a five-mile radius because there\u2019s way too many properties that are closer than that that would be good comps to mine. For me, when we had our house appraised when we refinanced a few years ago, it was in my neighborhood. All walking distance from my house was the radius that they used. Now, in a place like Joshua Tree where the majority of the properties are sitting on acreage, I think one of our closest comps or one of the comps that was included in our appraisal report was like four miles away. It\u2019s because the parcels are so big, the number of comparable listings was significantly smaller, so they had to go a little bit wider. Ideally, you want to start as tight and small as possible with your radius and then expand out only if you can\u2019t find good properties.
Then to Ashley\u2019s point, you definitely want to focus on your date range. I know for me, Ash, typically when I\u2019m looking, especially now, I try and start with the previous 90 days, and I don\u2019t want to go anything greater than 90 days to begin with. Only if I feel like my radius is getting too big, then will I start to push it out to maybe six months. I feel like anything beyond six months is going to be tough, especially in this climate. Because the markets in a lot of places are shifting so much where if you try and go back, like you said, a year, the market\u2019s completely different in summer of 2022 than it is in summer of 2023. So I think just those things, distance and date range, are incredibly important as well.<\/p>\n
Another thing after you said that that reminded me is the time to close, too, on a property. In California, you can do a pretty quick close. You\u2019re doing closes in 21 days, right?<\/p>\n
Mm-hmm, yeah.<\/p>\n
In New York State, that\u2019s almost impossible. So sometimes you are looking at 90 days to close on a property. During that time period, a lot of things can change during those 90 days. So that\u2019s also something very important to look at, too, as to, when did the property go under contract? When did it actually go pending compared to when it actually sold? So you can see, okay, this property actually went pending, so they made that offer, weren\u2019t going to buy it at that price six months ago, and then they went and closed on it. But the appraiser is going to still look at that closed price, like when the property actually closed, not when it went under contract.
But if something went under contract six months ago, and the interest rates were a little bit better and it was spring, everybody\u2019s out house hunting, and they bought it for half a million, well, now they closed six months later because of different issues, whatever. But then the other comparables, their interest rates went right back up. It\u2019s starting to become winter. People aren\u2019t wanting to move in the winter, and the sold prices have dropped. So now you have one comp that\u2019s really good, but then you have your two other comps that are bringing the properties down. So make sure you are taking that range of comps and not just relying on one or two. You have at least three of them, too, because there\u2019s all these different factors that can come into play.<\/p>\n
Ashley, just out of curiosity, because I forget that sometimes it can take that long for you guys to close on stuff in New York. Do you have anything in your purchase agreements where it\u2019s like, \u201cHey, if the market values shift by X percentage during our closing period, then we have the ability to renegotiate,\u201d or are you at the mercy of the market?<\/p>\n
Yeah, because most of our offers are all cash purchases, no contingencies. So if there was a contingency put on it, our offer probably wouldn\u2019t.<\/p>\n
Gotcha, interesting.<\/p>\n
I did actually just put an offer in this weekend. I was at my kids\u2019 football game. Right before their game was starting, they\u2019re doing their warmups, and I\u2019m just scrolling Zillow. It\u2019s better than Instagram.<\/p>\n
Yeah, [inaudible 00:19:31] what all real estate investors do.<\/p>\n
So I see this property and I\u2019m like, \u201cI feel like that\u2019s really close to another property we own.\u201d I look and it\u2019s two parcels away. Our other one is a little cabin, a little goat barn, a pond, and it\u2019s 10 acres, and this was five acres with a little one-bedroom cottage on it. Part of the cottage had this beautiful glass room that\u2019s off of it. It was listed for $124,000. I\u2019m like, \u201cOh my god, we can rent this on Airbnb for this much money. At this price, this is great.\u201d
So I texted it to Daryl, who was somewhere there at the game doing something before it started. I texted it to him. I\u2019m going through, and I was like, \u201cWe need this, if we can get at this price.\u201d So I texted my agent, and I said, \u201cMake an offer at whatever they want. No contingencies, no expend\u2026 uh, I can\u2019t talk, inspection, and we\u2019ll just take it.\u201d She texted me back, she said, \u201cOkay, I asked the agent about verbal offers and she said they have gotten so many requests for showings they are three days booked out for showings already. So she\u2019s not going to take any offers, and they\u2019re now going to put a deadline on offers.\u201d
So Daryl comes back over. He\u2019s like, \u201cOh, that house sounds pretty good.\u201d I was like, \u201cYeah, I already put an offer in. Sorry, I didn\u2019t tell you.\u201d So now the deadline is actually right now. It\u2019s 1:02 p.m. right now on Tuesday, and the offers were due at 1:00 p.m. We just went $1,000 over asking because it\u2019s a great deal even at that. If we don\u2019t get it, there\u2019s other properties, things like that. But I only want it if it\u2019s a great deal.<\/p>\n
It makes me think, though, Ash, is there a time and place where maybe the ARV isn\u2019t as important? For example, we\u2019re working on a commercial deal right now. It\u2019s a seller financed deal. We\u2019re picking it up for 950, but they gave us a 30-year amortization period. For our rookies that are listening, that means that, just like a traditional mortgage, those payments are being stretched out over 30 years. It\u2019s a 10-year term, so we either have to sell or refinance at the end of 10 years. It\u2019s a 7% interest rate on a commercial property, which is pretty good given where we\u2019re at. And I want to say, I think it was like 200K down, so our payment on this 13-unit motel is going to be like, I don\u2019t know, four grand a month or something like that.<\/p>\n
There\u2019s no balloon payment or anything over [inaudible 00:22:15]?<\/p>\n
At year 10.<\/p>\n
Year 10, okay.<\/p>\n
Year 10, yeah.<\/p>\n
So you don\u2019t have to refinance for 10 years.<\/p>\n
We don\u2019t have to refinance for 10 years, so we got 7%-<\/p>\n
[inaudible 00:22:22] years.<\/p>\n
\u2026 interest rate locked in for 10 years.<\/p>\n
So any comp now is not going to be valid anyways.<\/p>\n
And it\u2019s just like, does it even matter what the property\u2019s going to appraise for right now? Because it\u2019s like we have an entire decade to get this\u2026 Even if we did nothing in most markets for a decade, you\u2019re going to see some level of appreciation. It\u2019s just like, in that situation, we\u2019re not necessarily super concerned about the comparables because we\u2019ve got this really good fixed debt. I bring that up to say, if you\u2019re a rookie and you\u2019ve got a good deal like that, maybe there\u2019s some creative finance involved and you don\u2019t necessarily have to worry about going out and getting an appraisal at any point in time, then does it really matter what the property\u2019s going to appraise for? As long as you\u2019re cash flowing, I think that\u2019s\u2026 Obviously, you don\u2019t want to go too far underwater, but in the short term you can probably weather that storm.<\/p>\n
When we talked to Pace Morby on here\u2026 Actually, I think we\u2019ve talked to him a couple of times, went on BP, and then we had him on an actual episode. That\u2019s a lot of what he talks about is that the purchase price isn\u2019t always the most important thing. That if you can get seller financing or subject to and you don\u2019t even have to go to a bank to refinance, who cares, to a certain extent, what your purchase price is if your payment is going to be zero percent interest and it\u2019s going to make you cash flow on the property?
To your point, that\u2019s exactly\u2026 One thing when I looked at that property, I didn\u2019t sit there and actually analyze it. I have an EZ Calculator app on my phone, and I was like, okay, this is what my mortgage would payment would be if I actually put a bank loan on it or whatever. Then I looked at, this is my daily rate for Airbnb. I\u2019m going to do conservative, do 65% occupancy, and this is how much it\u2019d make month. I\u2019m like, okay, I know property taxes would be about this. On my little phone calculator figuring this out in my head, and I\u2019m like, okay, it would cash flow. So it doesn\u2019t matter how much we\u2019re paying for it because I know I can get terms at this price for it. So if it doesn\u2019t refinance at a certain amount, this is what I get my\u2026 Well, we would be using private money, not bank lending on that one. Yeah, that\u2019s a great point about the purchase price.<\/p>\n
Just, if you guys want to waste a bunch of time, for our rookies that are listening, just play around with a mortgage calculator and see how different the interest rates impact things. It\u2019s like, if I were to buy a million-dollar home at a 2% interest rate, that\u2019s about 3,700 bucks a month. At 7%, that\u2019s 6,600 bucks a month. So just imagine the kind of leverage you can get if you are able to get some of this creative financing. Even if the purchase price is super high, your actual return is relatively low. Not to go too far off on a tangent, but just something to consider, that sometimes the ARV isn\u2019t as important if the terms that you\u2019ve got for that deal are incredibly strong.<\/p>\n
Since part of the question was what kind of software can a rookie use to find comps, the calculator software that I use is called EZ Calculator. Where did I go? So it\u2019s like, fncalculator.com is the actual website for it. It has one, two, three, four, five, six, seven, eight, nine, 10, 11, 16 different calculators on here. You could do a compound interest calculator, so if you want to figure out how much interest your money would make in the bank compared to investing it in real estate, you could figure that out. The currency converter, in case you\u2019re buying something in Mexico. But all these\u2026 retirement 401(k) calculator. But the loan calculator is on there. A credit card payoff calculator. This is a calculator app that I use all the time for playing with mortgages to see what they would be based on down payment, or what the interest rate might be if I do bank financing or private money and things like that.
Oh, and actually, another couple apps that I\u2019ll tell you, too, is a hunting app called onX Hunt. It\u2019s actually for hunters. So if you\u2019re tracking a deer, you know whose property you\u2019re on, so if you need to ask permission to track the deer on their property, things like that. You can actually see the parcels. You can also see the satellite view of the land. It will actually tell you this is 80% forest, this is 10% field, this is 10% structure, whatever it may be. But that\u2019s a super helpful app, too, for looking at a property to compare it to others. Another one is LandGlide, which is actually for real estate investors. They have a parcel view, and then they also have that satellite view, too, and give you a bunch of information about who owns it, things like that.
Let\u2019s go on to our next question. This one is from Daniel Dow. \u201cCurious, what mid-range repairs do you classify as CapEx versus general maintenance?\u201d So CapEx is capital expenditures. Then he goes on to say, \u201cFor example, I would think we would all consider a clogged drain as maintenance and a new roof as CapEx. What about things, replacing a water heater, a garage door or toilet? Secondly, do you distinguish between these expenses in your books?\u201d
So here\u2019s one big way is if the vendor that\u2019s actually doing this for you charges you sales tax or not, or they give you a capital improvements form. So if you are doing a capital improvement, you don\u2019t have to pay sales tax on that expense. If you\u2019re getting the new roof put on and you\u2019re going to write it off as a capital expenditure, depreciate it over so many years, you don\u2019t have to pay sales tax on it. So the vendor, the contractor will actually give you a form to fill out saying that you\u2019re going to be using this improvement as a capital improvement, and then they will not charge you sales tax on having that service done. So if a vendor gives you that, you do fill that out and give it back to them, then you are obligated to report that in your books as a capital expenditure. You do, you do have the option to actually pay sales tax on it, though, and not do it as a capital expenditure, I suppose.<\/p>\n
I wasn\u2019t aware of that, though. Actually, Ashley, you just educated me and taught me something new. I-<\/p>\n
That\u2019s at least in New York State, I would assume.<\/p>\n
I\u2019ve never-<\/p>\n
Yeah, maybe that\u2019s just New York.<\/p>\n
I\u2019ve never been charged sales tax for our service-related type expenses, at least not that I know of. Maybe they\u2019re baking it in somehow.<\/p>\n
Yeah, maybe that is just New York then.<\/p>\n
I think you do bring up a good point about the tax piece. It\u2019s like, I know when I do a cost segregation study on my properties\u2026 For our rookies that are listening, a cost segregation study is basically you taking all the different parts of your house and separating out the depreciation schedule for each individual part of your home. So on a typical home purchase, they depreciate everything evenly over, what is it, like 27 and a half years or something like that, some really odd number, and everything\u2019s equally depreciated over that time schedule. When you do a cost segregation study, you\u2019re able to depreciate some things in a year or in 12 months, I\u2019m sorry, or in five years or in some other period.
So when I think of capital expenditures, I\u2019m thinking of replacing things that would show up on that kind of report. It\u2019s like, hey, my roof, it\u2019s going to have to be replaced at some point in time, major HVAC systems, things that they have a given use of time and it\u2019s typically not something that\u2019s super short. For example, the way that we split it up in our business, if a guest checks into one of our properties and they break the handle on the toilet, that is typically something we\u2019re going to categorize as repairs. If we have to, like I said, replace the entire roof, that\u2019s something\u2026
Let me give a better example. If a single shingle comes loose from our roof, we\u2019ll call that repairs and maintenance. If we\u2019re replacing the entire roof, we\u2019re calling that CapEx. So for me, it\u2019s the size of the job. Then like I said, I don\u2019t know if this is just the way that my brain processes it, but it\u2019s like, what are the things that I\u2019m going to depreciate over a long period of time is the stuff that I consider as CapEx. How does it work in your brain, Ash?<\/p>\n
Here\u2019s two dead giveaways. You\u2019re adding value to the property, so maybe it\u2019s something you didn\u2019t have before that you\u2019re adding value. You\u2019re putting an addition on. You\u2019re turning a bedroom into a bathroom or something like that. You\u2019re adding something new to the physical property. The next thing would be is you are replacing something, such as the mechanics, you\u2019re replacing the roof, things like that. Kind of the definition in accounting terms as far as for the depreciation, if it has a useful life of less than one year, it is a repair or maintenance. So if it\u2019s something that\u2019s going to have a longer life, you\u2019re supposed to write it off as a capital expenditure.
But if it\u2019s something that\u2019s only going to be useful for less than a year, so like your HVAC filter, you have to put new filters in. They usually last three to six months, so that is not something that would be repair or maintenance on the property. I think generally looking at, is it adding value to the property? Are you replacing something that\u2019s already in the property? Then also the gray area as far as the repairs and maintenance of how big is that repair or that maintenance. Is it going to add value for more than a year?<\/p>\n
In terms of setting money aside, every person listening should be setting money aside for capital expenditures, your CapEx, and your repairs and maintenance. Because our properties do tens of thousands of dollars a year and revenue sometimes over six figures, so we typically just have one bucket that we dump all of our repairs and maintenance and our CapEx into. Usually, for most of our properties, that tends to work pretty well. But we\u2019ll take 5% of our gross revenue and put that aside for repairs and maintenance and CapEx. Honestly, that\u2019s actually not even really true. Typically, we\u2019ll just put aside 5% for CapEx really for the bigger expenses. Then because our properties and short-term rentals generate more revenue, we typically just handle the repairs and maintenance with whatever money was generated during that month. So that\u2019s typically how we set things up. How do you do it on the short-term side, Ash?<\/p>\n
I don\u2019t have a ton of partners, so I know, for you, with all of your partners, you have to have that 5% for each property and saved separately because you have the different bank accounts. But for me, I just have three partners, and we each pretty much\u2026 We keep a minimum balance in our LLC accounts. We don\u2019t go under that minimum balance. Then also, we each have our own accounts that have a good chunk of money. That\u2019s where we each\u2026 It\u2019s kind of our obligation to each other where, \u201cYou know what? We need to put this new roof on. Our reserves won\u2019t cover it. We need to put in each $2,000 or whatever.\u201d Then we go ahead and pull that money from our separate property savings. It used to be we would do 15%: 5% for vacancy, 5% for CapEx, and 5% for repairs and maintenance. Then it got to the point where you kind of grow and scale, and it\u2019s like, wow, that\u2019s a lot of money to be sitting-<\/p>\n
Sitting in reserves.<\/p>\n
\u2026 in reserves. To have bad things happen at every property at once, that might not happen. Then same is true, if for some reason that did happen where something bad happened to every single property, we would just have to use the cash flow from that month to put towards taking care of it.<\/p>\n
That actually did happen to us where we had to just\u2026 I think it was earlier this year. We installed a bunch of hot tubs at our properties sometime in 2022. So over the course of 2022, we installed a bunch of hot tubs, and we had a less-than-stellar electrician install everything for us. You have to do electrical hookup, and it\u2019s like a few thousand bucks to get the electrical done for a hot tub depending on where it is from the panel, and you got to run and maybe even dig, conduit, all that good stuff.
Anyway, for whatever reason, that electrician wasn\u2019t available when we got a new hot tub, so we hired another guy. This guy was a little bit more sophisticated of an electrician. The properties just happened to be next door to each other, and he went to the wrong property first. He was looking at the electrical. He\u2019s like, \u201cGuys, I think something\u2019s wrong here, the way this electrical was done.\u201d So just by chance he ends up seeing the other guy\u2019s work, and he was like, \u201cI honestly would not let anyone get into these hot tubs until I fixed the electrical.\u201d So we had to turn off the power to all the hot tubs, and we had to redo electrical on, I don\u2019t know, I think it was eight or nine properties in the span of a month. Each one\u2019s like a few thousand bucks per pop. Typically, that doesn\u2019t happen-<\/p>\n
And [inaudible 00:36:20] it\u2019s like, having to do that, coordinate that around guests. Tell guests they can\u2019t use the hot tub.<\/p>\n
Totally, they can\u2019t use the hot tub. Yeah, that was a bit of a nightmare. But there are times, I guess, where, the quote\/unquote, stuff can hit the fan all at the same time. It is good to have those reserves.<\/p>\n
Well, with that coordinating guests, things like that, too, that\u2019s one thing that stinks about short-term rentals is that when guests come, they\u2019re on vacation. They don\u2019t expect to have somebody there doing maintenance.<\/p>\n
Totally.<\/p>\n
Where a long-term tenant, it\u2019s like, \u201cYeah, come do maintenance because we live here.<\/p>\n
Yeah, come get it.<\/p>\n
We want this space, like take care of it.\u201d Once again, at my son\u2019s football game this weekend, the person that manages our short-term rentals, she was on vacation. I knew she was on vacation, but she had never said like, \u201cI\u2019m going on vacation. Is it okay if I don\u2019t respond? Can you watch over it, whatever and stuff?\u201d because she was going to do that. But I still get the Airbnb messages that pop up on my phone, and I saw it. It was something about the WiFi. I was just like, \u201cOh, you know what? She\u2019s on vacation.\u201d But she actually started texting our group texts and she\u2019s like, \u201cDaryl, the WiFi\u2019s not working.\u201d So he called the service company, and they said, \u201cWe don\u2019t have any outages, whatever.\u201d So then she\u2019s having them reset the modem and everything and can\u2019t get it to work.
So Daryl calls back, and they\u2019re like, \u201cOkay. Well, we\u2019ll send a service technician out,\u201d and they end up sending a service technician out. Daryl\u2019s like, \u201cI\u2019ll leave the game. I\u2019ll go. I\u2019ll check it out.\u201d I\u2019m like, \u201cNo, we have to learn to let these [inaudible 00:38:00] handle. It\u2019s okay. Just wait.\u201d Like, \u201cIf we get a four-star review\u2026\u201d I\u2019m like, \u201cWell, I\u2019ll give her $75, okay? I\u2019m going to say, \u2018I\u2019m so sorry for the inconvenience.\u2019 I\u2019ll send her back $75. Will that make you sit okay during this game?\u201d So I sent her the credit. I was like, \u201cI apologize. They\u2019re going to send a service guy out to check it out. They shouldn\u2019t need the interior access.\u201d She\u2019s like, \u201cOkay, we won\u2019t be here. Thank you so much.\u201d The service technician gets there, and he is like, \u201cActually, I do need access.\u201d So it was really nice. We just let the guests know he was going to go in. They were fine with it. We unlocked it from our phone, and he went in.
The breaker was off. That\u2019s why the internet wasn\u2019t working. This company is so amazing, and this internet provider, it definitely wasn\u2019t some household name internet provider. The guy, he\u2019s like, \u201cOh, it must\u2019ve popped. I just turned it back on. Now everything is working, and you\u2019re all set.\u201d This is Saturday afternoon, and this technician is coming out to fix the WiFi. It\u2019s like, here, we should have sent Daryl out or something to just turn the breaker on.<\/p>\n
Yeah, just a [inaudible 00:39:07].<\/p>\n
Or, which in all the long-term properties, anytime an outlet isn\u2019t working, whatever, we always have them check the breaker. For some reason with the internet, we just didn\u2019t make that connection and ask them to check the breaker and stuff. Yeah, that was a-<\/p>\n
It\u2019s crazy how there\u2019s always little things that happen as you\u2019re running your properties. But it\u2019s kind of cool because, exactly what you said, it reinforces you\u2026 or I guess it reminds you that you need to always be optimizing your systems and processes.<\/p>\n
Yeah, keep updating them.<\/p>\n
Totally. One of the things I do daily, or I try and do daily, but with our VA team, is I review the messages between my VAs and the guests who are checking out that day. A lot of times nothing happens. It\u2019s just like, \u201cHey, cool, thanks. I\u2019m in. Hey, I\u2019m out.\u201d But sometimes things happen, and I get to see how the VAs are handling those situations, and then I can give them feedback and say, \u201cHey, this is what we should be doing next time. Make sure you update the SOPs,\u201d or, \u201cHey, we actually don\u2019t have an SOP for this, but here\u2019s what I want you guys to be doing moving forward.\u201d So identifying those moments and then really updating them I think is-<\/p>\n
The same with reviews. Are you looking at the reviews? Because we don\u2019t really get a lot in the messaging of people telling us different things, but we get a lot of private feedback of different things. I\u2019m actually surprised of how many people will still give you a five-star review and amazing things, and then they are actually really considerate and say, like this person with the internet, it\u2019s just like, \u201cIt really was an inconvenience to us to not have the internet,\u201d because there\u2019s no cable or anything. That\u2019s the only way to watch TV. Thankfully, it was a beautiful day out. They just said that was, but they did appreciate that. Then I think there was one other issue that came up, and we were like, \u201cWe just want to let you know,\u201d and stuff like that. But I find that very helpful, too, to review those private notes that they send and use that, too, to update things that you wouldn\u2019t even think of.<\/p>\n
We love looking through the messages on a more frequent basis, and then we try and look at the reviews weekly. It\u2019s good to look at both. Because sometimes a guest, like you said, you\u2019ll see something in the messages that doesn\u2019t show up in the review, and then the inverse is true. Well, the guests won\u2019t say anything at all during their stay, but then they\u2019ll just rail on you in the review. It\u2019s like, \u201cOh my gosh.\u201d I think the absolute worse, and we see this sometimes, it\u2019s where the messages are clean. The guests said they had a really good time, the public review is glowing, the private review is blank, and then they still give us a four-star. We\u2019re like, \u201cWhat the heck happened?\u201d<\/p>\n
Yeah.<\/p>\n
You have nothing to work with. But, yeah, it is good practice to review all that stuff.<\/p>\n
Okay. As far as the last question, \u201cDo you distinguish between these expenses in your books?\u201d Your capital expenditures actually go on your balance sheet as an asset, and then your repairs and maintenance are actually an expense on your profit and loss statement. What this means is that, if you pay a roofer $10,000 and you have $50,000 in revenue and say that roof was your only expense for some reason, so you have that $50,000 revenue and then you\u2019re subtracting that $10,000, you\u2019re like, \u201cOkay, I have a profit of $40,000. I\u2019ll report it on my taxes.\u201d But, no. Because it\u2019s a capital expenditure, it\u2019s not. It\u2019s going to be depreciated, and your accountant will take a portion of that $10,000 and write it off for this year because the useful life of that roof is 27 and whatever years, and it\u2019ll be depreciated over that amount of time, so you\u2019re only writing off that portion of it.
That\u2019s where cash flow comes in. When you\u2019re actually calculating cash flow, you do take in those kind of expenses to calculate your cash flow. It\u2019s just not taken into account for your profit and loss statement. This is why it\u2019s so great to do tax planning so you can talk to your CPA. You\u2019re doing all these capital improvements, but then you find out that you can only depreciate a portion of it. Now you have to pay taxes on part of that money that was actually spent in this year.<\/p>\n
I did just look it up and validate. Yeah, 27.5 years is the typical depreciation schedule for residential real estate.<\/p>\n
Thank you guys so much for listening to this week\u2019s Rookie Reply. If you have a question that you want answered, please go to biggerpockets.com\/reply, or you can send a DM to Tony or I. I\u2019m Ashley @wealthfromrentals, and he\u2019s Tony @tonyjrobinson. We will be back on Wednesday with a guest. See you guys then.<\/p>\n