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The accounting function for rental real estate is quite different than that of any other business. It’s not as simple as “money in = revenue; money out = expense.” Instead, accounting entries are much more complicated and convoluted.
This article will provide you with accounting tips and tricks that you can use to streamline your accounting function. We’ll touch on accounting system design as well as various technology that you can utilize to enhance your accounting system.
Dedicated Bank Accounts
I’ve written about this before and even mentioned it on my Bigger Pockets Podcast (Show 196) guest appearance.
Using dedicated bank accounts will make all other aspects of your accounting much simpler. Imagine trying to sift through business expenses when they are comingled in your personal bank account. It will be tough and time consuming.
Make life simpler by dedicating one bank account to each individual property. Doing so allows you to easily track income and expenses per property.
Unfortunately, as you may have guessed, this system is not scalable. Most of our clients tend to max out at four properties and accounts before they seek other options.
The next step at that point is to group properties into bank accounts based on similar characteristics. These characteristics could be geographic location, asset size, asset value, etc. It’s up to you on how you wish to organize your financial structure but the key is to actually organize it. If you need advice on the best way to set these accounts up, please reach out.
Use Your Phone as Much as Possible
We have a saying internally: If we can’t use our phone to get the job done, the job won’t get done.
Technology is so advanced these days that you can literally run your accounting function via different applications on your smart phone. We highly encourage that you do as much as possible on your phone.
Even with the best intentions, you likely won’t be disciplined enough to input logs on your computer using that handy MS Excel spreadsheet every month. Miss one month of records and you start this snowball effect of perpetually putting off recording your data.
Instead, we see the most success with people who are able to record transactions as they happen, using their cell phone. Take a look at some of our recommended applications:
- Accounting: We recommend using QuickBooks Online. Xero is also good too, but QBO is much more powerful and flexible. We think QBO is a must for real estate investors. You can integrate QBO with tons of applications and download the QBO application to your phone to further streamline recordkeeping.
- Mileage: We recommend using the MileIQ application. It will record your miles in the background as you travel around. Swipe right for business, left for personal.
- Receipts: We recommend using a combination of Expensify and the QuickBooks Online applications. Get into the habit of whipping out your phone the second that you come in possession of a receipt from anywhere and you’re life will be made much easier.
- Data Pull: If you need to pull data from other sources, we recommend using HubDoc. HubDoc works similarly to a centralized password program in the sense that you store all login credentials on the application. The big difference though is that HubDoc will “fetch” your documents, bills, and bank statements from your various vendors and providers and then automatically attach them to the matching QuickBooks Online transaction. It’s phenomenal.
Set Up Recurring Transactions
Recurring transactions are those that happen month-after-month. These transactions are predictable which means we can automate the recording of these transactions.
Setting up recurring transactions in QuickBooks Online is easy. It’s also important so that you can consistently have accurate financial statements.
I recommend that you first go through the QuickBooks Online walk through on how to set up Recurring Transactions prior to reading this section as we will be getting a tad technical.
Three transactions that I suggest you set up as a Recurring Transaction are:
- Depreciation
- Amortization
- Mortgage Payments
Depreciation
To set up a recurring transaction for depreciation, you must first know the improvement basis of your rental property. Remember, we do not depreciate value tied to the land, only the building.
For example, we may purchase a building for $100,000. The land may be valued at $10,000 leaving $90,000 for the building value. The building value is then depreciated over 27.5 years.
To set up a monthly recurring transaction for depreciate, we need to divide the building basis by 27.5 (years) and then divide that number by 12 (months). Doing so will provide us with a monthly depreciation amount.
Using the example above where our building basis was $90,000, our monthly depreciation would be $272.72.
When we input this as a recurring transaction, we will have to specify accounts and amounts to debit and credit. In this case, we will debit the Depreciation Expense account for $272.72 and credit the Accumulated Depreciation account for $272.72.
Amortization
To set up a recurring transaction for amortization, we need to know the total costs incurred to obtain the loan and the loan period. Loan costs include origination fees, credit checks, appraisals, etc. We will divide the loan costs by the loan period, and then by 12 months to get the monthly amortization expense.
For example, assume our loan costs are $3,000 and the term is 30 years. We’d divide the costs by the period to get $100 per year and then divide that by 12 to get $8.33 per month.
When we input this as a recurring transaction, we will have to specify accounts and amounts to debit and credit. In this case, we will debit the Amortization Expense account for $8.33 and credit the Accumulated Amortization account for $8.33.
Mortgage Payments
Lastly, to set up a recurring mortgage payment transaction, we have to get a bit creative. Each month when you make a payment, your principal balance of the loan decreases. This means that the following month’s interest expense paid will be a bit lower than the prior month.
Unfortunately, there is not a fantastic way to automate this perpetually changing interest and principal amount. When the transaction hits your bank feed in QuickBooks Online, the system will only see the lump sum payment. You can see an example here:
Mortgage Payment: $540
Insurance Portion: $60
Taxes Portion: $100
Interest Portion: $250
Principle Portion: $130
QuickBooks Online will only recognize the $540 payment and will not realize that there are several things happening within that $540 nor will it realize that the interest portion and principle portion change each month. And therein lies the problem.
In this case, you would need to “split” the transaction as it comes in each month. But instead of manually splitting the transaction each month, we have a better way of recording this.
We set up a recurring transaction with the beginning-of-the-year splits for insurance, taxes, interest, and principle. At the end of each year when we receive a Form 1098 and updated Amortization Tables from the bank, we book one year-end adjusting entry to correct the total balance of interest and principle on the books. We then update the recurring transaction in QuickBooks Online for the new insurance, taxes, interest and principle splits.
Doing it this way means that each month you still get to see a relatively accurate representation of your outstanding loan balance and interest expenses. And your time spent manually correcting your books is minimal because you are only having to do it once per year.
Summary
I hope you are able to take away a few solid accounting hacks from today’s article on real estate accounting made easy. Just remember that you want to simplify your accounting function as much as humanly possible. Use technology to automate the process and try to manage as much as possible from the palm of your hand.
At the end of the day, your books may be too challenging for you to continue handling. Feel free to reach out to our team for a free proposal on outsourcing your books to us.