If you’re a busy real estate investor managing a portfolio of rental properties, it might be tempting to let administrative work fall to the wayside. For instance, bookkeeping is something that tends to take the back burner for entrepreneurs who don’t particularly enjoy filing receipts or reconciling expenses. However, setting up a strong rental property accounting system is a must for running a well-oiled real estate business and making sure you get the most out of your investments. Furthermore, learning accounting basics and setting up an efficient accounting system early on will give you the time to focus on profit-making activities.
Before getting started, it’s helpful to understand the functions of bookkeeping and accounting, and how they are related to one another. Bookkeeping is the recording of financial transactions for individuals or businesses. These records are what entrepreneurs can use to analyze the financial performance of their business, otherwise known as accounting.
When managing a portfolio of rental properties, you will want to ask yourself some of the following questions: how will you manage the constant flow of rent checks, management fees and maintenance invoices? How do you know which of your properties are eating into your profits? Staying on top of your bookkeeping is the solution to safeguarding your business and maximizing your financial performance. Below are the steps for setting up a solid bookkeeping system for your rental properties. Be sure to familiarize yourself on the benefits of real estate bookkeeping so that you can fully get yourself on board.
Separate your personal and business accounts
Set up individual accounts for each property
Implement a system for tracking your income and expenses
Choose between the cash or accrual accounting methods
Take advantage of accounting technology
Prepare for fluctuating expenditures
Learn how to fill out tax forms correctly
Add a tax professional to your team
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Separate Personal And Business Accounts
Set yourself up for success by separating your personal and business finances with proper rental property bookkeeping. Open financial accounts for your business, such as checking and savings accounts, credit cards and debit cards. This separation ensures that all the income and expenses flowing in and out of your business doesn’t get mixed up with your personal affairs. Creating savings accounts is an important tool for earmarking future rental property expenses, such as capital expenditures and vacancies, as well as holding on to security deposits.
Differentiate Property Accounts
As you grow your business, be sure to open separate accounts for each rental property that you own. By doing so, your income and expenses will be kept separate on a per-property basis. By avoiding commingling, your life will be much easier when it comes time to reconcile, prepare profit and loss statements, and file taxes. In addition, keeping your financial data unique to each property will allow you to identify any particular properties or units that are eating into your rental income.
Once you have set up separate accounts for each of your properties, you will be ready to start tracking your expenses. You will need a reliable system for tracking the inflows and outflows of cash for your properties, and your business overall. Some business owners might design their own expense worksheets, while others will elect to use rental property accounting software to keep track of their finances.
Use Cash Or Accrual Method
Another important step in setting up your rental property expense tracking is to to decide whether you will implement the cash or accrual method of accounting. If you prefer to record income and expenses as they occur, regardless of when the cash is received or paid, you should use the accrual method.
Alternatively, you can use the cash method if you prefer to log income and expenses as they hit your account. Larger organizations use accrual accounting, as it provides a better picture of income and expenses over periods of time. However, if you’re a small business with restricted cash flow, you may prefer to use the cash method so that you can see exactly how much cash you have at any given moment.
Deciding which method to choose is dependent on your personal preference and what works best for your business, however the most important thing is to stay consistent and stick to one accounting method when recording your transactions.
It is strongly encouraged for business owners to go digital for all things accounting and bookkeeping. This includes the use of scanning applications to digitize receipts and invoices as they cross your desk (or even while you travel), or investing in accounting software to integrate your bookkeeping, file storage and financial analysis in one place.
Digitization will help you declutter your office, stay on top of your invoicing and even contribute to saving the planet. If you’d like to share data with professionals across your team, cloud-based software may be your best option. Visit this resource for recommendations on the best financial software for real estate investors.
Automate Accounting Tasks
Owning and operating a profitable rental property portfolio requires a lot of things, not the least of which are systems. Systems are designed to make things easier on investors and enable them to make success habitual. That said, it’s entirely possible to implement systems into mundane accounting tasks. Investors should fined the most efficient ways to automate their accounting needs. Everything from automatic payments and withdrawals to reminders can be automated. Consequently, anything that can be automated (and trusted) should be automated. Even small tasks should be automated; everything that can free up more of your time will make rental property accounting easier and more accurate.
Prepare In Advance
An important application of rental property accounting is the use of past data to forecast future expenses. To prepare for fluctuating or unexpected expenditures, disciplined landlords and investors will set aside a set percentage of their rental income into savings each month. For example, do you know what you will do when maintenance costs increase sharply in the winter? How will your cope when a number of appliances need to be replaced at once? Setting aside these savings provides a buffer against derailing your finances. Over time, your historical financial data will help you forecast these costs with greater accuracy.
Understand Tax Forms
It is recommended that you get a working knowledge of applicable tax forms as soon as you start your business. Doing so will make rental property bookkeeping a lot easier and more accurate. For example, the 1099 and W-9 are forms you are required to obtain from every employee, as well as non-employees that do any work for your business. These forms will be necessary come tax time, and the penalties for not filing correctly are expensive. Make sure to understand the basics of taxes as soon as possible by talking to a tax professional.
Hire A CPA
Consulting specialized professionals in areas outside your expertise is the only surefire way to safeguard your business. A certified public accountant (CPA) is a great addition to your team of experts, as they will advise you on how to implement accounting systems, educate you on best practices and help you analyze your financial performance. They will also serve as your guide when preparing and filing your taxes.
Hopefully by now you understand the benefits of organizing your rental property finances, as well as separating out income and expenses for each property in your portfolio. To get started, you can either set up your own rental income and expense worksheet, or rely on a system provided by the software of your choice. Regardless of your preference, it’s beneficial to practice on a template so that you can internalize the basics of proper bookkeeping.
Rental property accounting, when done correctly, brings about valuable benefits for any business owner. Advantages include safeguarding your business against debt or fraud, forecasting future expenses, and saving time and resources during tax season. Rental property owners can use bookkeeping to their advantage to track the financial flows for each property, so that they can fine-tune their operations.
If you are an investor with an LLC, you may enjoy additional accounting principles and tips. As always, consult a financial professional to help you implement financial tracking the right way for your business. And remember: accounting is just one example of many real estate systems that will help you maximize efficiency and minimize errors, so you can channel your energy into activities that will boost your bottom line.
What is your preferred method of rental property accounting? Do you like to design your own systems, or do you like to rely on software? Share your reasons why in the section below: