Are you the kind of person who hopes for the best and it usually happens? Maybe you ought to think twice before you get involved with a real estate investment of any magnitude, because if you don't plan ahead you're likely to get caught unprepared.

Ever wonder why you should prepare a budget for an investment property? You know the income and expenses are about the same every year, so why budget?

Surprise, the new roof you did not expect is needed now. All the tenants are complaining and will move out if you do not replace it this summer.

If it's hard for you to remember all of the expenses you might have come up with every year, you need to budget. Budgets are usually needed for larger properties. The definition of a larger property is up to you.

A precursor to establishing a budget is a thorough walk through (and note taking) of every corner of your property. Take your time. Take a friend. Make careful notes. Do it in a way that will make sense to you after you have left. Maybe prepare a form for each commercial tenant or apartment unit. Look for dry-rot, if the carpets are worn out, and if appliances are aging. Look at the condition of the roof. How is the exterior siding holding up? How is the paint job? Do you need to refresh the bark dust? Is the asphalt alligatoring, (yep, it looks like old alligator cowboy boots)? Estimate the remaining life span of the critical items (the roof, the driveway, etc.).

Next you need to estimate how much this will all cost. In many cases you will need to ask some vendors to come out and give you estimates. Get at least two opinions on any expenses over $2000.

Make sure the vendors are bidding the same products. There is a big difference between a torch down roof, and a built-up roof. Asphalt overlays, 1.5 inch or 2-inch also make a big difference in the cost. Evaluate what might be the better investment. Make sure that what ever you spend your money on it will last. If your attitude is that tenants are lower creatures and low-grade repairs are all they deserve, then you will forever be repairing your property. I digress back to strict budgeting.

Plan your budget on a 12-month basis. First review the income side of the equation. Plan on your rents. Can you increase them? Have you figured in additional income from garages or coin-op washing machines or cable TV or water meter charge-backs?

Next you need to calculate a vacancy rate based on your experience with the property. You can check with a real estate agents or appraisers to get an accurate handle for vacancy rates in your marketplace. The vacancy rate needs to be subtracted from the income before you subtract expenses.

Now plan for expenses. The major categories are likely to include:

• Property management
• On-site manager
• Wage taxes
• Advertising
• Promotions
• Water
• Property Tax
• Property Insurance
• Sewer
• Gas
• Electric
• Maintenance
• Landscaping
• Appliances
• Tenant turnover (think of those vacancies...)
• Replacement reserves (at least 2 percent -- maybe more for an older property)
• Eviction expense
• Legal, tax and bookkeeping help
• Other expenses unique to each property

Once you have totaled the operating expenses and subtracted them from your income the result is called the net operating income. From the net operating income you subtract the mortgage payments. The result is the cash return on your downpayment.

The capital expenses you discovered in your walk through either need to be factored in a this point or planned for and paid out through maintenance or a capital expense line item.

Let's say you need a new roof on all five buildings in your apartment complex but you only have enough money for one roof. What do you do? Plan ahead for a couple of years and see if you can make repairs at the rate of one roof per year.

Keeping your property in tip-top condition is critical to tenant retention as well as to maintaining your property values. To do this successfully, you'll need to budget annually and you'll need to plan ahead to keep from being caught unprepared.

Try it, you'll like the results!

For more articles by Clifford Hockley, please press here.