This timely episode is all about the importance of year end planning as an investment property owner. Listen in as Carla and Adrian discuss the do's and dont's of making sure your numbers are all in order.
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Welcome to Canada's Property Management Podcast, your number one resource for investing, managing, and maximizing the value of your real estate assets. And now here's your host, Carla Browne, and Adrian Schulz, Canada's rental property experts.
Good morning. We're not supposed to say good morning or hello, we're just supposed to get started.
Okay, let's get started. This one is a special episode, it is dealing with year-end financial prep. So it is one of those ones that's timely, but if you are listening to this in September or April, it's still something you can take some really good notes on. So we are about six weeks out from our year-end, and now is the time where an investor needs to really start looking at where their properties are sitting.
So Adrian, let's walk through some of the things that you as a property investor do at this time of year to make sure that you're prepared for the year-end and that you're not taking money and giving it to the tax man that could be used to put into your property.
Yeah. So I think just an admission of guilt, like most property investors on a monthly basis, I'm focused on the monthly cash basis income statement. What came in, what went out, what's the cash flow difference on a month-to-month basis, that's what I'm looking at.
Cash flow, cash flow, cash flow.
Yeah. Ironically, I'm equally concerned about the passive income tax exposure, but that's really what we're going to talk about today. So in Q4 of every year, I tend to request a year-to-date cash basis income statement from my property manager in two ways. Number one for each property, and number two, consolidated all in one.
The consolidated all in one, its sole purpose is to identify the net operating income before debt service. Okay? Because that will identify what the passive income tax exposure will be. It's very important that it is pre-debt service because only the interest portion of debt service is a tax-deductible expense. So I think it's much better to look at net before debt service. And that then gives you a glimpse of your entire portfolio of what your tax exposure is going to look like for the year. You'll obviously have to prorate for the end of the year. You'll have to times it by 1.2 or 1.25, whatever part of the year you're getting the year-to-date statement in.
So that's the high level, but then we look at each individual property to see... And if it's a joint ownership, it's easy to decide. But sometimes a portfolio, you may have one owned by one spouse, one owned by another spouse, you'll own another one together and they're accounted for in that way in your statement of rental property activity that's generated along with your T1 general. You want to make sure that you're looking at the right property for the right person. So there's a little bit of detail that you want to be sure of.
But you now know overall how much exposure, and then you look at each property and you identify the ones where, oh, we've got a lot of exposure here, we've got a lot of cash flow here, do we want to pay tax on that, or do we want to minimize our tax burden, our tax exposure, and actually invest in the property before year-end? That's the key. That means work done, invoice paid before the end of the year. Because the majority of rental property operations are going to be cash basis, so you've got to do it early enough to get the work done.
Alternatively, I suppose that you could engage service providers and make a large deposit or down payment. I'm just not sure how that would be recognized in the property management software, but those are things for you to discuss with your accountant and your property manager. And then it's this question of do we want to do maintenance just for the sake of it proactively, I'm sure many other episodes we've talked about proactive maintenance, or do you actually look at the long-term capital improvement plan of your property? And let's not use fancy words, let's dumb that down for a minute. Roof needs to be done, new furnace, new boiler, maybe new gutters and eaves, maybe some new windows, new doors, et cetera. Like those bigger ticket items. And then evaluate which one is a high priority, and with high priority I mean, what's going to be good for the tenant and potentially could increase your rents. Right?
Yeah. It's also a time to look at who is your target tenant, who are you actually trying to target to be a tenant in your property, because doing some of those changes might actually impact who you're going to attract to the property. And we've seen the tenant profiles changing as years have gone on, so now is a really good time to start looking at that.
We made a decision in a few rental units a couple of years ago to move to LVT flooring or a luxury vinyl tile flooring. And you can do it with grouting so it looks like ceramic tile. It's a very neat product. And we did it in two in three bedroom units. What we didn't account for is that the type of tenants we were actually attracting were families who are people with kids, and never ever could we have forecasted that that people would ask if they could have carpets put in the bedrooms. And I appreciate that, like we've got carpet in our basement. There is a place and time to have carpet and some families with children will want to have carpet in the bedrooms. So those are the things you really have to think through to your point of who is your target tenant because I thought everybody wanted hard surface floors. Nope, that's just the German in me.
Yeah. I mean it's the people looking for a modern look and it seems like it's good for a rental property, and we recommend it all the time. But it's important to note, carpet absorbs sound. There's so many things that carpet does that you're not going to get when you're using the luxury vinyl, even though it's quick and easy to use for rental because it's good for cleanup, easy if it gets damaged, there's all different kinds of reasons for using it. But yeah, all these little things you don't think about.
To finish that flooring story, because it's relative regarding how to minimize your tax exposure on passive income. There was a property that had quite a bit of net income, and we actually recalled, oh, these were the people that asked for carpet. So what we did is we spent... It was maybe $800 a bedroom and we put in KangaHYDE carpet on top of the LVT. So when we don't need the carpet anymore, it just gets rolled up and removed and you've got a quality LVT underneath. So those are the... Whatever it was, $800 a bedroom. Those are the kinds of things that you couldn't do.
So two things happened. Number one, those tenants were ecstatic, so they may have stayed longer. And number two, we invested in the property lessening our net income, lessening our tax exposure. I would just encourage you to really process line by line in capital improvement opportunity and identify maybe instead of taking this money, let's let it work for us and invest it in the property, which is good for the tenant, good for the property, and good for the manager managing it because they've got a better quality product or asset to take care of.
Now, that's real property management.
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