Multi-Family Investment: Unpacking Operating Expenses

Operating expenses are the costs associated with maintaining and running a property. They can be broken down into the following categories:

1. Property Taxes: These are taxes paid to the local government, usually based on the property's assessed value. You can find this information on your local government's website or through a real estate agent.

2. Insurance: This is necessary to protect your investment from damage and liability. Costs can vary depending on the property's location, size, and condition, among other factors.

3. Property Management: If you're hiring a property management company to handle things like tenant screening, rent collection, and maintenance, you'll need to factor in their fees. This is typically a percentage of the gross rental income, often around 8-10%.

4. Maintenance and Repairs: These are the costs to maintain the property and fix any issues that arise. A common rule of thumb is to set aside 1% of the property value per year for maintenance, though this can vary based on the property's age, condition, and other factors.

5. Utilities: If you're paying for utilities like water, electricity, garbage, or internet, these should be included in your operating expenses. However, tenants in many rental agreements are responsible for utility costs (except water/sewer).

6. HOA Fees: You must pay HOA fees if the property is in a community (condo, coop) with a Homeowners Association. These cover shared community expenses like landscaping, maintenance of common areas, and potentially some utilities.

7. Vacancies: Vacancies can be considered an operating expense because you're not earning rental income during vacancy periods. A common practice is to account for a 5-10% vacancy rate, though this can vary based on the local market.

8. Advertising: Costs associated with advertising the property for rent should be considered, especially if it's regularly turning over tenants.

9. Legal and Accounting: These should be factored into your operating expenses if you need legal or accounting services related to your property.

10. Reserve Funds: Setting aside a reserve fund for major unexpected expenses like replacing a roof or HVAC system is wise.

By accurately estimating your operating expenses, you can better evaluate a property's potential to generate a positive cash flow and return on investment. Note that these are ongoing, recurring expenses you'll need to pay as long as you own the property, not one-time costs like the purchase or rehab costs.

Next up ... Calculating Net Operating Income (NOI).