Keeping Good Financial Records
While this may not be the most interesting part of your rehab project, it will have significant impacts. You already know this, but we still run across many people that either don’t know how to keep good financial records or question its value.
How to keep records
It is best to keep records for each individual project. An LLC might help to keep things organized as well as provided asset protection. There are two sets of records that need to be kept: a balance sheet and a profit and loss (P&L). Fortunately, these are easy to keep track of, and can be done via a computer program, a spreadsheet, or even paper.
Broadly speaking, you are going to come up with a budget, then record actual expenses in those same categories, and then keep track of the variances to know where you are. There are 3 main ways to keep a budget: by room, by line item (or trade) and by stage. With a little creativity, these can be combined as well.
This has two main advantages: 1. It provides a convenient ‘punch list’ to determine completion and 2. Figuring out what is worthwhile can be done by comparing cost vs value, for example: https://www.remodeling.hw.net/cost-vs-value/2019/
By line item/trade
This method the project is tracked by major category. This is especially useful if you are making extensive use of sub-contractors.
Major stages of a rehab are: acquisition & prep, demo, build, finish, sell. Each of these stages have specific steps and can therefore be budgeted and tracked.
Once you decide how you’d like to track your expenses, determine a budget by line item, and then track expenses in those categories. Remember, overages are part of every project, it is important to document those as they will help you better prepare the next budget.
This sounds complicated but it just is tracking what the project owns and owes. Frequently, the only asset owned is the property being rehabbed, and the only liability being owed the money borrowed for the project.
Assets - Liabilities = Equity, which is your profit at the end of the project.
Why to keep records
Have you ever watched cricket? Most Americans think it is an unintelligible and boring sport, with arcane rules. But the biggest complaint is that it is impossible to tell how points are scored. Golf or watching a marathon may not be your thing, but at least you can follow the rules and know how the score is kept. Watching a game without knowing the score or how it’s measured is frustrating at best, and you’re unlikely to get someone to participate with you. Keeping records for business is no different: it’s the way to keep score, to tell whether you are wasting your time and to convince others to participate with you.
Additionally, records will make discussions with partners easier and increase trust through visibility, make regulatory filings easier and more timely (IRS, state and local, etc) and reduce audit exposure when/if that occurs, helps you plan resources such as capital and labor, will minimize interest expenses by only borrowing money when needed, and makes everything quicker. An ounce of accounting is worth a pound of catch-up.