While demand is a driving force behind the growth of the self storage industry, there’s another reason everyone wants in on the action: Most self storage facilities have relatively low capital expenditures, or capex. Unlike office and retail space, it doesn’t take much to keep a self storage facility running. Of course, that doesn’t mean capex is non-existent. In order to stay competitive, owners need to occasionally invest in upgrades, repairs, and expansions. This makes planning (and budgeting) for capex very important.
Capital expenditures are big investments, such as expansion and new technology, that self storage facilities make to maintain or grow their business. Monthly expenditures, on the other hand, such as utilities, insurance, and employee salaries, are operating expenses, or opex. While some expenses may seem to teeter between capex and opex, a good rule of thumb is whether an expense is recurring (opex) or one-time (capex).
Capex purchases generally provide value and usefulness for many years, so owners eventually recover the cost of these acquisitions by depreciating them over time. Typically, a business cannot deduct the full costs of capex in the year the expenses are incurred, so it’s important that purchases be carefully planned out; the sooner the better.
Planning for capital expenditures means evaluating and identifying the long-term needs and requirements of the business. Then, it becomes a matter of prioritizing capex purchases. In some cases, it may be as simple as having a roof inspection completed, determining its remaining lifespan, and then adding a capex budgeting plan that will provide for replacement in five years. Other times, the capex planning can be more involved; for example, upgrading to an automated security system which will be implemented in stages over several months or even years.
Although there is not a specific time frame that needs to be followed for capex planning, most self storage facilities choose a period of 3-5 years. Any shorter and there may not be sufficient time to complete the project or set aside financial reserves; any longer and it becomes more difficult to create an accurate budget.
Capex planning and budgeting require a thorough facility inspection. It’s important to think about the life expectancy and condition of all major equipment as well as the facility itself. These will of course vary based on the size, age, and condition of your self storage facility, but some things that may need upgrading or repair include:
Of course, there may also be some items that aren’t a necessity, but that could greatly improve competitive advantage and sales, such as moving to a fully-automated security system or expanding to include boat or RV storage. These types of improvements need to be planned for just the same.
Whether you’re replacing, repairing, or upgrading, following an evaluation you’ll want to begin working with vendors in order to obtain quotes and lock in the best pricing. Financially Simple provides some useful ideas for getting the best deal, such as speaking with multiple vendors, negotiating, and never accepting the first offer.
Armed with a better understanding of your facility’s needs, it’s time to begin creating a capex plan including an estimated capital expenditures budget. Prioritizing upgrades and repairs, and then determining when you’ll need the funds for each, comes next. As discussed previously, some of this will likely be spread over a number of years based on the immediacy of need and life expectancy. Ultimately, the goal is to determine how much money needs to be set aside into a capex reserve fund every month in order to accomplish each goal in the time period that has been identified.
To create your capex budget for repair and replacement, simply divide the cost to repair or replace by the number of years left of useful life for each item on the list. Let’s say roof repair is going to cost $10,000 but the current roof has five years left on it. You’ll need to put $2000 into reserves each year for five years to pay for the repairs without having to tap into operating cash flow. For new equipment or technology, this works much the same way. Let’s say you want to upgrade your security system within the next three years. Take the quoted price and break it up monthly over that time frame, putting money aside each month.
Not able to meet your reserves? You may need to consider raising rents (especially if you’re already underpriced) or implementing storage fees. If you do go this route, consider letting tenants know that the increase or fees will be going toward improvements to the facility that will benefit them in order to reduce pushback or move-outs.
Sometimes, of course, upgrades or repairs can’t wait. In these cases, you’ll need to pre-fund your capital reserve fund. If you are borrowing some or all of the funds, you’ll want to list the money as an inflow of cash in the financing activities section of your budget and an outflow of cash in the investing activities section. Sometimes, the lender will even work with you to manage your capital reserve budget, much like an escrow account on a home loan.
Here are five quick things to remember when planning for self storage capex, with additional information about self storage capax tax planning.
Capex can get chaotic when a plan and budget aren’t clearly defined. Remember to always determine your capex ceiling (how much you can set aside for spending) and then prioritize. It’s also important to engage facility-level management at this stage. As a self storage owner, you may not be involved in the day-to-day activities of your facility and may not know what capex projects are necessary. Management, on the other hand, may have ideas on how to improve the facility. Brainstorm costs and benefits with them, and then decide what works into your capex plan.
Guesstimations have no place in capex planning. Without reliable numbers, creating a realistic capital expenditures budget is almost impossible. That’s why it’s important to consult with vendors early on to get an idea of what the capex project will cost. Need help running numbers? Check out some capex planning software on G2.
Capex is often spread over years so most expenditures will not factor easily into an annual budget. To uncomplicate things, always keep your capex budget separate from your annual budget (this will also help if multiple partners or parties are involved in decision-making).
We covered this one, but it’s important to reiterate because it happens all too often. This is especially true when a capex project has opex implications (for example, staffing and maintenance for a capex project, which is opex, can easily get buried in the capex budget if you’re not careful). In addition, confusing the two can lead to a much larger tax bill than expected (see below for more on this).
While opex can immediately be written off, capex cannot. Instead, the IRS allows an annual allowance for depreciation (the regular wear and tear or obsolescence of the capital expense purchase).
Try calculating depreciation using the Modified Accelerated Cost Recovery System (MACRS). This allows businesses to deduct more depreciation within the early stages of a capital expense’s lifetime. The IRS also allows certain types of capital to be deducted as expenses.
You might also consider a cost segregation tax deferral strategy, based on an engineering-based cost segregation study. This allows you to frontload depreciation deductions for capex assets into the early years of ownership. It is important to have the study done by a firm with extensive tax and construction knowledge, as well as cost segregation expertise. In IRS audits, studies done by CPAs that are not engineering-based are easily challenged. However, the IRS does not challenge engineering-based cost segregation studies because they would have to hire an engineering firm to do so. If you use the right expertise, you are not the low-hanging fruit for an IRS audit. An engineering-based cost segregation study uncovers potential tax deduction opportunities. With these tax savings, you can improve your cash flow and acquire additional resources to invest in growth. The study will look at all costs associated with the purchase, construction, renovation, or expansion of your self storage facility and identify those that may qualify for a shorter tax depreciable life.
Successful capital expenditure planning requires evaluating, prioritizing, and budgeting. In doing so, self storage facilities can successfully plan for repairs and upgrades, without having to use operating cash flow to cover them. With the Storelocal membership organization, capex planning becomes even easier as we have a partner network designed to help and support independent self storage owners along with consulting services. If you’re interested in joining the Storelocal family, while staying completely independent, contact us today.