The bane to any landlord's existence is vacancies. Nothing will cost you more money, more headaches, and more sleepless nights than having vacancies. But, you'd better "cowboy up" as they say out West. Because, if you own a rental property, then you will have vacancies. We refer to this inevitable situation as the "vacancy rate." The "vacancy rate" is a percentage of time that you will have vacancies over a year period. It can range anywhere from five percent to twenty percent.
Vacancy rate is similar to the unemployment rate...it's the amount of time that your units will be unemployed. Typically, as with the unemployment rate, five percent is about the best you can expect from the vacancy rate. That means that if your gross rents are $10,000 per year, then you should expect to be out of pocket at least $500 in vacancy over the year period.
Now, I used to think when I owned just one unit, that this vacancy rate made little sense. My logic was that either it's vacant or not...so the vacancy was either zero percent or one hundred percent.
But, as I began to gain more experience as an investor, I learned that over a lengthy period of time, say five years, that the vacancy rate for my units tended to settle right in at five percent per year.
A large part of this is due to turnover rates and how long it takes to get a unit ready to rent again. Even if you had a great tenant that left your unit in perfect shape, there's still a turnaround time. A simple five percent vacancy means that out of the 52 weeks of the year, that it would be vacant roughly two and a half weeks out of the year. This doesn't leave a lot of time to clean the unit, advertise, show it to a few people, sign a lease, and work around the tenant's calendar.
When you are calculating cash flow prior to purchase, you should always use this vacancy rate in your calculations. If you're not sure what rate to use, do some internet research or ask someone else in the business. Just remember that vacancy rates are very geographically dependent. What might be a good number for a nearby metropolitan area may be higher or lower than what you should use for a local suburban property.
Vacancy rates tend to indicate whether the market is in balance. If rates are too high, then that kind of property is over supplied. If rates are low, then there is more demand than there is supply. Of course, different property types will have different vacancy rates. Single family housing will hover around 1 and 2 percent. Multi-family housing should be around 5 and 7 percent. The reason for the difference is that tenants tend to turn over five times as often in multi-family housing than that in single family houses. Office buildings and retail tend to be in the 8 to 12 percent ranges.