Property

Management
Accounting
CPE Edition
Distributed by AccountingTools, Inc.
www.accountingtools.com
Property Management Accounting

Steven M. Bragg
Copyright © 2021 by AccountingTools, Inc. All rights reserved.

Published by AccountingTools, Inc., Centennial, Colorado.

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Course Information
Course Title: Property Management Accounting

Learning Objectives:
• Recognize the role played by a property manager when dealing with property owners.
• Identify the various accounts that may be used by a property manager when recording transactions
for property owners.
• State the different types of operating expenses that can and cannot be charged through to tenants.
• Specify the rules associated with the capitalization of expenditures related to properties.
• Describe the different types of common interest realty associations.

Subject Area: Accounting

Prerequisites: None

Program Level: Overview

Program Content: A property manager needs to maintain the accounting records for a number of property
owners, which calls for a unique chart of accounts, journal entries that pertain to specific property transac-
tions, and periodic reports that convey the financial essentials to owners. Property Management Accounting
addresses these topics and more, giving the accountant a firm grounding in how to deal with any property-
related accounting issue that may arise.

Advance Preparation: None

Course Expiration Date: This course expires one year from the date of purchase.

Publication/Revision Date: August 2021

Recommended CPE Credit: 1 hour

Table of Contents
Property Management Accounting ............................................................................................................................1
The Fiduciary Nature of Property Management........................................................................................................1
Chart of Accounts ......................................................................................................................................................2
Basis of Accounting ...................................................................................................................................................4
Sample Entries ...........................................................................................................................................................5
Receipt of Rental Payment ....................................................................................................................................6
Receipt of Security Deposit ...................................................................................................................................6
Withholding from Security Deposit .......................................................................................................................7
Receipt of Property Reserve Payment ...................................................................................................................8
Deferred Rent Payments ........................................................................................................................................8
Pass-Through Charges ...........................................................................................................................................9
Prepaid Rent ........................................................................................................................................................ 10
Contingent Rent ................................................................................................................................................... 11
Applying Prepaid Rent ........................................................................................................................................ 11
Management Fee Payments ................................................................................................................................. 12
Payments to Property Owners ............................................................................................................................. 12
Ordinary Repairs and Capital Expenditures ........................................................................................................... 12
Property Management Financial Reports ............................................................................................................... 13
The Rental Ledger ................................................................................................................................................... 15
Common Interest Realty Associations ..................................................................................................................... 16
Essential Property Management Measurements ..................................................................................................... 17
Operating Expense Ratio ..................................................................................................................................... 17
Return on Investment........................................................................................................................................... 17
Cash Flow ............................................................................................................................................................ 18
Review Questions ..................................................................................................................................................... 19

Answers to Chapter Questions ................................................................................................................................. 20

Glossary ...................................................................................................................................................................... 21

Index ........................................................................................................................................................................... 22

Final Examination ..................................................................................................................................................... 23

About the Author
Steven Bragg, CPA, has been the chief financial officer or controller of four companies, as well as a con-
sulting manager at Ernst & Young. He received a master’s degree in finance from Bentley College, an MBA
from Babson College, and a Bachelor’s degree in Economics from the University of Maine. He has been a
two-time president of the Colorado Mountain Club, and is an avid alpine skier, mountain biker, and certified
master diver. Mr. Bragg resides in Centennial, Colorado. He has written more than 250 books and courses,
including New Controller Guidebook, GAAP Guidebook, and Payroll Management.
Steven maintains the accountingtools.com web site, which contains continuing professional education
courses, the Accounting Best Practices podcast, and thousands of articles on accounting subjects.

Buy Additional AccountingTools Courses

AccountingTools offers more than 1,250 hours of CPE courses, with concentrations in
accounting, auditing, finance, taxation, and ethics. Related courses that you might like
include:
• Auditing Construction Contractors
• Construction Accounting
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• Real Estate Tax Guide

Go to accountingtools.com/cpe to view these additional courses.

ii
 Property Management Accounting
Introduction
Property management refers to the management of real estate by a professional property manager, working
on behalf of the owner of the property. A property manager may administer many types of property, ranging
from residences to industrial facilities. These properties may be owned by many types of investors, includ-
ing individuals, pension funds, corporations, and possibly even governments. A property manager needs to
engage in all aspects of property administration on behalf of these owners, including maintenance, tenant
relations, the marketing of vacant space, risk management, and accounting for the results. In this course,
we are primarily concerned with the accounting for managed properties.
A property manager maintains the books for each property being managed, as well as for the property
management company. This means that a separate set of books must be maintained for each party.

EXAMPLE

The Doubletree Management Company bills a rental owner $500 for a monthly management fee. The property man-
ager records this billing as income on the books of Doubletree, and as an expense on the books of the rental owner.

This concept is supported by the economic entity principle, which states that the recorded activities of a
business entity will be kept separate from the recorded activities of its owners and any other business enti-
ties. This means that the accountant must maintain separate accounting records and bank accounts for each
entity, and not intermix with them the assets and liabilities of its owners.
In this course, we cover the fiduciary nature of property management, the chart of accounts to be used
for properties under management, a number of sample journal entries relating to various property-related
situations, and other related topics.

The Fiduciary Nature of Property Management

A property manager acts in a fiduciary role for the owner of a property, which means that the property
manager administers the property on behalf of the owner. A fiduciary must exhibit proper diligence in the
administration of any assets held, must be obedient to the desires of the owner, and must regularly report
on the status of those assets to the owner. The property manager must act in the best interests of the owner,
and cannot use this position to gain at the owner’s expense.
As an agent for the owner, a property manager is usually required by state law to maintain accounting
records for the properties under management. Owners need accurate record keeping in order to calculate
their income tax liabilities related to a property, as well as to decide whether the property is a good invest-
ment. We will discuss the record keeping system beginning in the next section.
When a property manager is handling money on behalf of a property owner, these funds are considered
to be held in trust. For example, rent payments, reserve funds, and security deposits cannot be commingled
with the funds of the property manager. Under most state laws, trust funds must be held in a bank account
that is identified as a trust account. By separately storing funds in this manner, it is more difficult for a
property manager to inadvertently misappropriate the funds. Another reason for using trust accounts is that
this keeps owner funds from being claimed by the creditors of the property manager or other property
owners.
One problem with using separate bank accounts is that the property manager may need to deal with a
massive number of bank accounts in situations where there are many property owners. To mitigate this
complexity, the property manager may instead use a pooled trust account, where all property owner funds

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 Property Management Accounting

are maintained in a single bank account, with the accounting system being used to identify the funds held
by each property owner. When a pooled trust account is used, the property manager needs to routinely
reconcile the account, so that funds can be clearly associated with each owner.

There are several accounting issues related to the use of trust accounts, which are as follows:
• Earned interest. When a trust account is interest-bearing, any interest earned usually belongs to the
owner, unless the management agreement stipulates otherwise.
• Bank service charges. Account service charges imposed by the bank are usually the responsibility
of the property manager. This may involve having the bank remove the fees from the property
manager’s account, unless state law allows the property manager to keep enough of his own money
in the trust account to pay these fees.
• Trust fund deposits. The applicable state laws govern how quickly funds must be deposited in trust
funds, once they are received by the property manager. This period ranges from one business day
to three business days.

Even when a pooled trust account is used, the property manager typically elects to maintain three separate
trust accounts, in order to more clearly identify the transactions stored in each one. These accounts are:
• Operating account. This is the highest-activity account, since rent payments are deposited into it
and operating expenses are paid from it. This is typically a non-interest-bearing operating account.
• Reserve fund account. This account is used to amass funds that will be needed periodically to make
capital expenditures, such as parking lot repaving or roof replacement. These funds may come di-
rectly from owners, or they may be transferred in from the operating account. This is typically an
interest-bearing account.
• Security deposit account. As the name implies, this account is used to track security deposits held.
This also means that when security deposits are returned to renters, they are paid with a separate
check from this account. Some states require that tenants be paid any interest earned on these funds;
when this is not the case, the interest is treated as operating income for the property.

A particular concern for a property manager is to ensure that these accounts are properly (and promptly)
reconciled to the relevant bank statements. If these accounts are not reconciled in a timely manner, the
property manager could face disciplinary action in the event of an audit.

Chart of Accounts
Many of the accounts used by a property manager are commonly found in other industries. However, the
revenue accounts are somewhat more specialized. There may be a large number of revenue sources, which
can be tracked in separately-identified accounts, such as late fees, utility income, laundry income, and stor-
age unit income. A sample chart of accounts for a typical property appears in the following exhibit.

Sample Chart of Accounts

Account Account
Number Account Name Type
1000 Cash – Operating account Asset
1010 Cash – Reserve fund account Asset
1030 Cash – Security deposit account Asset
1015 Prepaid expenses Asset
1020 Accounts receivable Asset
1030 Property and equipment Asset

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 Property Management Accounting

Account Account
Number Account Name Type
1040 Accumulated depreciation Asset1
2000 Security deposits Liability
2010 Pet deposits Liability
2020 Prepaid rent Liability
2030 Accounts payable Liability
2040 Loans payable Liability
3000 Owner equity Equity
3010 Owner draws Equity
4000 Rent income Revenue
2
4010 Tenant assistance payments Revenue
4020 Late fee income Revenue
4030 Utility income Revenue
4040 Cable TV and internet fees Revenue
4050 Laundry income Revenue
4060 Vending machine income Revenue
4070 Storage unit income Revenue
4080 Parking income Revenue
4090 Special tenant services income Revenue
4100 Pass-through charges Revenue
4110 Interest on tenant security deposits Revenue
4120 Miscellaneous income Revenue
5000 Advertising expense Expense
5010 Bad debt expense Expense
5020 Depreciation expense Expense
5030 Elevator maintenance Expense
5040 Grounds maintenance Expense
5050 Heating and air conditioning maintenance Expense
5060 Insurance expense Expense
5070 Interest expense Expense
5080 Janitorial and maintenance supplies Expense
5090 Legal and audit fees Expense
5100 Management fees Expense
5110 Operating contracts Expense
5120 Painting and decorating expense Expense
5130 Property taxes Expense
5140 Repairs and maintenance expense Expense

1
Accumulated depreciation is actually a contra asset account, which means that it is paired with and offsets another
account (in this case, the Property and Equipment account)
2
Tenant assistance payments are the housing assistance payments received by a property from government pro-
grams.

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 Property Management Accounting

Account Account
Number Account Name Type
5150 Security expense Expense
5160 Special tax assessments Expense
5170 Supplies expense Expense
3
5180 Utilities expense Expense
5190 Miscellaneous expenses Expense

It is possible that the owner of a property will demand that a specific chart of accounts be used, which can
complicate the accounting by the property manager, especially when there are several different charts of
accounts being used for different properties. This situation is most common when the owner is a large
property owner that wants to maintain a standard chart of accounts across all of its properties. When a chart
of accounts is not being imposed in this manner, it is much more efficient for the property manager to use
exactly the same chart of accounts for all properties under management.

Basis of Accounting
When accounting for a property management entity, the accountant can elect to use either the cash basis,
accrual basis, or a hybrid basis of accounting. Under the cash basis, revenue is recognized when cash is
received, while revenues are recognized when bills are paid. This is the easiest approach to keeping the
books, but can result in skewed reporting when cash inflows and outflows occur later than expected. For
example, if a rent payment is received a month late, the total revenue recognized in the month when the
payment should have been received will be low by the amount of the payment. Similarly, if a supplier
invoice is paid a month late, the total expense recognized in the month when the payment should have been
paid will be low by the amount of the unpaid bill.
Under the accrual basis of accounting, revenues are recognized when earned and expenses when in-
curred, irrespective of when the associated cash is actually received or paid out. The accrual basis tends to
result in more even recognition of revenues and expenses over time, and so yields more predictable financial
statements. However, using the accrual basis calls for the use of accruals to record transactions when there
is no cash inflow or outflow, which is more complicated for the accountant.

EXAMPLE

A renter is due to pay $1,200 of monthly rent as of March 1. The actual payment is received on March 4. Under the
cash basis of accounting, the $1,200 is recorded as revenue on March 4, using the following entry:

Debit Credit
Cash – operating account [asset account] 1,200
Rent income [revenue account] 1,200

Under the accrual basis of accounting, the $1,200 is recorded on March 1 as a receivable, using the following entry:

Debit Credit
Accounts receivable [asset account] 1,200
Rent income [revenue account] 1,200

3
Utilities expense includes electricity, garbage removal, gas, water and sewer, and may also include cable and Inter-
net access.

4
 Property Management Accounting

When the $1,200 cash payment is received on March 4, the receivable is eliminated with the following entry:

Debit Credit
Cash – operating account [asset account] 1,200
Accounts receivable [asset account] 1,200

EXAMPLE

A management company receives a $3,500 repair bill from a supplier on March 10 and pays the bill on April 9. Under
the cash basis of accounting, the $3,500 is recorded as an expense on April 9, using the following entry:

Debit Credit
Repairs expense [expense account] 3,500
Cash – operating account [asset account] 3,500

Under the accrual basis of accounting, the $3,500 is recorded on March 10 as a payable, using the following entry:

Debit Credit
Repairs expense [expense account] 3,500
Accounts payable [liability account] 3,500

When the $3,500 cash payment is made on April 9, the payable is eliminated with the following entry:

Debit Credit
Accounts payable [liability account] 3,500
Cash – operating account [asset account] 3,500

The accountant may choose to use a hybrid method that incorporates elements of the cash and accrual
methods. If so, the accountant needs to apply the method consistently in order to achieve uniform reporting
to property owners over time.
Whichever accounting method is used must be applied consistently. If a property owner wants to switch
methods, it must first obtain the approval of the Internal Revenue Service.

Sample Entries
Over time, a property manager will need to deal with a standard set of accounting transactions. In the fol-
lowing examples, we note the journal entries needed for the more common transactions. When the account-
ing differs under the cash basis or accrual basis of accounting, the method being used is noted. When neither
method is indicated, it means that the journal entry is the same under both the cash and accrual bases of
accounting.

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 Property Management Accounting

Receipt of Rental Payment

A property manager receives a $2,000 rent payment from a renter. The payment is deposited in an operating
account, which also triggers the recognition of rent income. The cash basis of accounting is being used. The
entry is:

Debit Credit
Cash – operating account [asset account] 2,000
Rent income [revenue account] 2,000

The property manager receives another rent payment, except that this time the renter is paying late, and so
adds a $75 late fee to his payment. The key difference from the preceding entry is the additional line item
for the late fee, which is recorded separately. The entry is:

Debit Credit
Cash – operating account [asset account] 2,075
Rent income [revenue account] 2,000
Late fee income [revenue account] 75

If the property manager had instead been using the accrual basis of accounting, she would have initially
recorded a receivable for the rent payment, along with the associated revenue. Once the rent payment is
received, the cash payment offsets the receivable. These two entries are:

Debit Credit
Accounts receivable [asset account] 2,000
Rent income [revenue account] 2,000

Debit Credit
Cash – operating account [asset account] 2,000
Accounts receivable [asset account] 2,000

Receipt of Security Deposit

The property manager receives a $1,400 security deposit from a new renter. This is a liability for the busi-
ness, since it must eventually be paid back to the renter. The cash basis of accounting is being used. The
entry is:

Debit Credit
Cash – security deposit account [asset account] 1,400
Security deposits [liability account] 1,400

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 Property Management Accounting

The manager of another property uses the accrual basis of accounting. A new renter signs a rent agreement
and promises to pay both the $500 security deposit and the first month’s $1,300 rent at the end of the week.
The manager initially makes the following entry:

Debit Credit
Accounts receivable [asset account] 1,800
Rent income [revenue account] 1,300
Security deposits [liability account] 500

At the end of the week, the renter pays the property manager $1,800, which results in the following entry:

Debit Credit
Cash – operating account [asset account] 1,300
Cash – security deposit account [asset account] 500
Accounts receivable [asset account] 1,800

Withholding from Security Deposit

A renter gives notice that he will not be renewing his lease agreement at the end of the month. During a
walk-through inspection after the renter has moved out, the property manager notices that there is damage
to several of the walls that exceeds the normal level of wear and tear. A local maintenance firm estimates
that wall repairs will cost $350. The renter had originally paid a $1,000 security deposit. When the deposit
is paid back to the renter, the property management firm withholds $350 from the deposit to pay for repairs,
resulting in the following entry:

Debit Credit
Security deposits [liability account] 1,000
Other income [revenue account] 350
Cash – security deposit account [asset account] 650

In addition, there is still $350 remaining in the security deposit account that should be transferred to the
operating account, where the money can be used to pay for the wall repair. The related journal entry is:

Debit Credit
Cash – operating account [asset account] 350
Cash – security deposit account [asset account] 350

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 Property Management Accounting

Receipt of Property Reserve Payment

The property manager may require a rental owner to pay a property reserve, which is funds to be kept on
hand for unexpected expenses related to the rental owner’s property. This is classified as an owner contri-
bution in the accounts of the rental property. For example, a management company that uses the accrual
basis of accounting requires a property owner to pay in $750 for a property reserve. The initial billing to
the property owner results in this entry:

Debit Credit
Accounts receivable [asset account] 750
Owner contributions [equity account] 750

The company then receives payment from the property owner, which results in the following entry:

Debit Credit
Cash – reserve fund account [asset account] 750
Accounts receivable [asset account] 750

If the cash basis had been in use, there would be no entry until the cash was received, at which point the
following entry would be made:

Debit Credit
Cash – reserve fund account [asset account] 750
Owner contributions [equity account] 750

Deferred Rent Payments

Deferred rent accounting occurs when a tenant is given free rent in one or more periods, usually at the
beginning of a lease agreement. To account for these free periods, as well as subsequent periods, the essen-
tial accrual basis accounting is as follows:
1. Compile the total revenue generated by the lease for the entire lease period. For example, if a lease
is for one year with the first month free, and rent payments in all other months are $1,000, then the
total lease revenue is $11,000.
2. Divide this amount by the total number of periods covered by the lease, including all free occupancy
months. To continue with the same example, this would be $917 of revenue per month, which is
calculated as $11,000 divided by 12 months.
3. In every month of the lease, recognize the average monthly amount of revenue, irrespective of the
actual monthly payment received. Thus, the revenue in the first month of the example situation is
for $917. There is no actual payment in that month, since the tenant is being given a free month of
occupancy. This means that the $917 credit to rent income is offset by a debit to the deferred rent
receivable account, which is an asset account. The related journal entry is:

Debit Credit
Deferred rent receivable [asset account] 917
Rent income [revenue account] 917

4. In all successive months of the lease, continue to recognize the same average amount as revenue.
If an offsetting rent payment is received and the payment does not match the revenue, the difference

8
 Property Management Accounting

is charged to the deferred rent receivable account. To continue with the example, the monthly pay-
ment in all other months is $1,000, which is $83 higher than the amount recognized as revenue.
This difference is used to reduce the amount of the deferred rent receivable over the remaining
months of the lease, until it is driven down to zero. For example, the journal entry in the second
month would be:

Debit Credit
Cash – operating account [asset account] 1,000
Rent income [revenue account] 917
Deferred rent receivable [asset account] 83

The same approach to deferred rent accounting applies when the rent amount changes over time. For ex-
ample, if the lease rate increases after a number of months, the average rent income is still charged in all
months, with a portion of this charge being included in the deferred rent receivable. Later, when payments
match the higher rate but the average rent income is still being recognized, the deferred rent asset will
gradually decline.
The accounting complexity is greatly reduced when the cash basis of accounting is used. When this is
the case, revenue is only recognized when cash is received, which means that no revenue is recognized in
free rent periods.

Pass-Through Charges
Depending on the underlying lease agreement, the property manager may be able to charge operating ex-
penses to tenants, based on the amount of space occupied by each tenant. The amount charged is typically
based on the gross leasable area of each tenant, divided by the gross leasable area of the property. The types
of costs that the property manager typically bills to tenants, as well as those not usually billed, are listed in
the following table.

Recoverable and Non-Recoverable Operating Expenses

Recoverable Operating Expenses Non-Recoverable Operating Expenses
Cleaning fees Capital improvements
Electricity billings Depreciation charges
Facility repairs and maintenance Donations by property management company
Facility staff compensation Income taxes
Heating, ventilation, and air conditioning maintenance Interest on debt
Insurance Leasing costs
Management fees Legal fees, judgments, and settlements
Property taxes Marketing costs
Security services Penalties and fines
Water and sewage fees

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 Property Management Accounting

EXAMPLE

A property manager incurs $11,000 of common area maintenance charges, $6,000 for insurance, and $4,000 for taxes,
resulting in the following entry:

Debit Credit
Repairs and maintenance expense [expense account] 11,000
Insurance expense [expense account] 6,000
Property taxes [expense account] 4,000
Accounts payable [liability account] 21,000

The property has gross leasable space of 120,000 square feet, and tenant Smith & Company occupies 20,000 square
feet. Based on a 1/6th allocation, the property manager bills Smith for $3,500 4 to cover its share of the pass-through
charges, which results in the following entry in the records of the property manager:

Debit Credit
Accounts receivable [asset account] 3,500
Pass-through charges [revenue account] 3,500

If the lease agreement allows the property management company to classify capital improvements as re-
coverable operating expenses, the recovery period may be spread over the period during which the im-
provements are expected to be beneficial to tenants. For example, if an elevator replacement cost $250,000
and is expected to be beneficial to tenants for a ten-year period, then $25,000 of this cost will be included
in the recoverable operating expenses classification in each of the next 10 years.

Prepaid Rent
When a property manager enters into an agreement to rent space to a tenant, a common provision of the
rental agreement is that the tenant will pay the property manager at the beginning of the month. The property
manager typically records these payments as rental income in the month in which the cash is received.
But what if the tenant were to pay slightly earlier, at the end of the preceding month? In this case, a
property manager using the accrual basis of accounting must record the receipt of cash, but cannot yet
record rent income, since it has not yet been earned. Earning the rent will occur in the next month, which
is the period to which the payment applies. Instead, the property manager records unearned rent.
To account for this unearned rent, the property manager records a debit to the cash account and an
offsetting credit to the prepaid rent account (which is a liability account). In the month of cash receipt,
the transaction does not appear on the property owner's income statement at all, but rather in the balance
sheet (as a cash asset and an unearned income liability). For example, the following entry shows the treat-
ment of a $2,000 rental payment that is received a few weeks early:

Debit Credit
Cash – operating account [asset account] 2,000
Prepaid rent [liability account] 2,000

In the following month, the rent has been earned, so the property manager can now record a debit to the
liability account to clear out the liability, and a credit to the rent income account to recognize the revenue.

4
The $3,500 billing is calculated as (20,000 square feet ÷120,000) × $21,000 pass-through charges.

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 Property Management Accounting

The impact of the transaction now appears in the income statement, as revenue. The following journal entry
shows how the earlier $2,000 payment would be treated:

Debit Credit
Prepaid rent [liability account] 2,000
Rent income [revenue account] 2,000

The accounting noted here only applies under the accrual basis of accounting. Under the cash basis of ac-
counting, the property manager does not have any unearned rent. Instead, any rent payments received are
recorded as rent income at once.

Contingent Rent
Contingent rent is a rental payment that varies with the future amount of a specific factor that is not related
to time. Contingent rent is usually based on the future rent or profits of the tenant. It is not a fixed rental
payment, as is most commonly the case with rental provisions. This arrangement is most common for retail
stores, where sales information can be directly tied to a rented space. Under the cash basis of accounting,
contingent rent is not recorded until cash is received from the tenant. Under the accrual basis of accounting,
the property manager should recognize these additional rent payments only if the minimum measurement
threshold has been exceeded.

EXAMPLE

Barnaby Property Management rents retail space to Yum-Yum Candies. In addition to the normal monthly rent pay-
ment, the lease agreement also stipulates that Yum-Yum will pay 3% of its excess sales to Barnaby for any sales
exceeding $1,500,000. At the end of the year, the total sales of Yum-Yum were $1,800,000, so it must pay an addi-
tional $9,000 to Barnaby (calculated as sales above the threshold of $300,000 × 3%).

Applying Prepaid Rent

The terms of a rental agreement may mandate that a tenant pay the last month’s rent when it first enters into
the lease. This prepaid rent is initially classified by the property manager as a liability. For example, a tenant
is required to pay $1,250 as prepaid rent, which is recorded as follows:

Debit Credit
Cash – operating account [asset account] 1,250
Prepaid rent [liability account] 1,250

Once the last month of the lease arrives, the prepaid rent liability as reclassified by the property manager
as rent income, as noted in the following journal entry:

Debit Credit
Prepaid rent [liability account] 1,250
Rent income [revenue account] 1,250

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 Property Management Accounting

Management Fee Payments

The property management company will charge property owners a monthly management fee for its services,
which it extracts from the bank account associated with each property. From the perspective of the property
owner, the entry for a $300 management fee is:

Debit Credit
Management fees expense [expense account] 300
Cash – operating account [asset account] 300

From the perspective of the management company, the entry looks like this:

Debit Credit
Cash – operating account [asset account] 300
Management fees revenue [revenue account] 300

Payments to Property Owners

When there is an excess amount of cash in the owner equity account for a property owner, the property
manager pays this amount to the owner. Doing so calls for an entry to the owner draws account, which is
paired with and reduces the owner equity account. For example, the property manager plans to pay a prop-
erty owner $3,000, which requires the following entry:

Debit Credit
Owner draws [equity] 3,000
Cash – operating account [asset account] 3,000

Ordinary Repairs and Capital Expenditures

Most of the expenditures that a property manager incurs in relation to a property on a day-to-day basis
should be charged to expense as incurred, because they only relate to the servicing of the asset; these are
ordinary repairs. Such costs usually involve supplies and labor, and are typically recorded in the repairs and
maintenance expense account.
Portions of a property may require replacement from time to time. Examples of such items are air
conditioning motors that burn out or pipes that corrode. Other capital improvements may include the costs
of drainage work, enhanced insulation, electrical upgrades, remodeling, and the replacement of a roof. The
cost of these replacements can be capitalized and then depreciated over their useful lives, subject to the
following two rules:
• There are probable future economic benefits associated with the expenditure that will flow to the
entity; and
• The cost of the item can be reliably measured.

When the cost of a major replacement to a fixed asset is capitalized, also derecognize the component being
replaced. Otherwise, you would continue to depreciate a component that has already been removed from
the asset and is no longer in use. If you cannot separately identify the cost of the component being replaced,
estimate its cost and remove both the estimated cost and any related depreciation from the fixed asset of
which it is a part.

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 Property Management Accounting

EXAMPLE

Willow Apartments has a central furnace that was originally estimated to have a useful life of 30 years, but which is
failing after 20 years. The original cost of the furnace was $30,000, and its replacement costs $60,000. $20,000 of
accumulated depreciation has been recorded against the original furnace.

Willow’s accountant needs to remove the cost of the old furnace from its books, which she does with the following
entry:

Debit Credit
Accumulated depreciation [contra asset account] 20,000
Loss on asset derecognition [expense account] 10,000
Property and equipment [asset account] 30,000

The accountant then records a separate asset for the new furnace with the following entry:

Debit Credit
Property and equipment [asset account] 60,000
Cash – operating account [asset account] 60,000

Property Management Financial Reports

There is no standard financial report that a property manager issues to property owners at the end of a
reporting period. Instead, the information to be provided will be stated in the management agreement be-
tween the property manager and the property owner. The typical contents of a financial report are as fol-
lows:
• Rent roll. This is a list of the rent earned from each property. From the perspective of the owners,
this may be the most important report they receive. A sample rent roll appears in the following
exhibit. The information in a rent roll is derived from the rental ledger, which is described in a later
section.

Sample Rent Roll

Prior Current Receipt Other Receipt Balance
Unit Tenant Balance Rent Date Payments Description Total Due
A Abrams $1,000 $1,000 12/1 $-- -- $2,000 $--
B Bester -- 2,000 12/2 100 Parking 2,100 --
C Chelsey 500 1,800 12/1 75 Parking 2,375 --
D Diddle -- 2,200 12/1 250 Storage 2,200 250
E Enderby -- 1,900 12/3 -- -- 1,900 --
F Fallow 1,000 1,500 12/2 100 Late fee 2,600 --
$2,500 $10,400 $525 $13,175 $250

• Summary of operations. This is a brief statement of the income and expenses for the property,
resulting in a profit or loss from operations. A sample summary of operations appears in the fol-
lowing exhibit.

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 Property Management Accounting

Sample Summary of Operations

Income
Rent income $10,400
Parking income 175
Late fee income 100
Storage unit income 250
Total income 10,925

Expenses
Repairs 1,200
Operating expenses 1,925
Total expenses 3,125
Net operating income $7,800

The operating expenses classification listed in the report includes all expenses related to the maintenance,
operation, and management of a property. Operating and other expenses are then subtracted from total
income to arrive at the net operating income of the property.

• Owner contributions. This is a list of any payments made by the owner towards the upkeep of the
property.
• Statement of receipts. This is a list of all other income and received payments. Receipts were also
stated in the preceding rent roll report.
• Statement of disbursements. This is a comprehensive list of all payments made, including opera-
tional expenditures, capital expenditures, and debt service payments.
• Reserve account report. This is a listing of all deposits made into the reserve account, as well as
withdrawals from it. A sample report follows.

Sample Reserve Account Report

Beginning cash balance $1,000
Additions
Rental income 10,400
Other income 525
Subtractions
Repairs -1,200
Operating expenses -1,925
Owner disbursements -6,800
Ending cash balance 2,000
Reserve target 2,000
Available cash balance $--

• Budget vs. actual report. This is a listing of actual income and expenses, compared to budgeted
amounts, with a variance for the differences between the two. A sample budget versus actual report
appears in the following exhibit.

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 Property Management Accounting

Sample Budget vs. Actual Report

Actual Budgeted
Results Results Variance
Income
Rent income $10,400 $11,000 -$600
Parking income 175 200 -25
Late fee income 100 -- 100
Storage unit income 250 300 -50
Total income 10,925 11,500 -575

Expenses
Repairs 1,200 1,000 -200
Operating expenses 1,925 2,000 75
Total expenses 3,125 3,000 -125
Net operating income $7,800 $8,500 -$700

• Narrative report of operations. This is an explanation attached to the other reports, providing ad-
ditional detail about the financial events occurring during the period. A sample narrative report is:

We are pleased to provide you with the operating statements for 123 and 125 Main Street, Big City
for March, 20X1. The financial results and other matters related to your rental units are as follows:
• Rental income: $10,400
• Occupancy: 190 aggregate days rented
• Expenses: $3,125, which includes the monthly management fee and repairs to the units at
125 Main Street (see the attached repairs report)
• Owner distribution: $6,800 (remainder held as account reserve)

The tenant in Unit B at 123 Main Street is now 30 days late on her $2,500 lease payment. We have
issued two warnings and expect to begin eviction proceedings in two weeks, once the statutory 45-
day period of nonpayment has been concluded.

We have contracted with a carpet supplier to replace the carpeting in your Unit C at 125 Main Street
once the current tenant leaves, which should be at the end of this month. The estimated cost of the
carpet replacement is $2,400.

Please contact me if you have any questions regarding the attached reports. Thank you!

The Rental Ledger

The information in the rent roll is derived from the rental ledger, which contains all pertinent information
about each tenant. This ledger typically contains the following information:
• Tenant name and contact information
• Unit number
• Balances owed
• Lease expiration date
• Move-in date
• Payments made

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 Property Management Accounting

• Recurring charges and pass-through charges

• Schedule of rental rates and fees
• Security deposit amount

The rental ledger is needed to quickly access the essential information about a tenant’s payment and leasing
information.

Common Interest Realty Associations

A common interest realty association is an association of owners that is responsible for the provision of
services and the maintenance of property that is shared by or owned in common by the owners. Examples
of this type of association are:
• Condominium associations
• Cooperative housing corporation
• Homeowners’ associations
• Time-share associations

This type of ownership situation typically has the following characteristics:

• Owners own specific lots or interior spaces, or own shares of stock in a property
• Owners have an undivided interest in common property
• Owners are automatically assigned ownership in an association that maintains property and pro-
vides services
• Owners are assessed an amount at intervals to fund the association

An association should recognize revenue as deferred revenue when it is a special assessment designed to
pay for specific costs that have not yet been incurred. These amounts should only be reported as revenue
when there are offsetting expenses. All other special assessments can be recognized as revenue in the peri-
ods in which they are assessed, irrespective of whether they have been collected.
If an association uses fund accounting, it should charge expenditures for major repairs and replacements
to the fund established for that purpose. If such an expenditure relates to common property, report the
expenditure as a transfer from the major repairs and replacements fund to the operating fund.
A common interest realty association recognizes non-unit real property as an asset, but only when it
has title or other evidence of ownership, and when either of the following conditions is present:
• The association can dispose of the property and retain the proceeds; or
• The property is used by the association to produce significant cash flows based on usage

These assets are to be recognized at their acquisition cost. If an asset was acquired through a non-monetary
transaction, such as a transfer from a developer, the association should recognize the asset at its fair value
on the acquisition date. In the latter case, it can be useful to consider the developer’s cost when deriving
the fair value figure. Once recognized, these assets shall be depreciated over their useful lives.
All types of common interest realty associations should recognize common personal property as assets.
Examples of these assets are furnishings, recreation equipment, and vehicles that are employed to operate,
maintain, or replace common property.
When a common interest realty association receives assets from a developer and recognizes them in its
balance sheet, the assets should be reported as additions to the balance of the association’s operating fund.
If the association does not issue assessments to its members for future major repairs and replacements to
property, it may not be necessary to use fund reporting.

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 Property Management Accounting

Essential Property Management Measurements

A property manager and the property owners being served should be concerned about cost control, the
return on invested funds, and the cash flows being generated by properties. These measurements are ad-
dressed in the following sub-sections.

Operating Expense Ratio

One of the primary tasks of the property manager is to keep operating costs under control. Doing so mini-
mizes cash expenditures, which in turn increases the return on investment for investors. Further, the positive
cash flows associated with tight cost controls can increase the value of a property. The property manager’s
effectiveness in this area can be measured using the operating expense ratio, which compares operating
expenses to gross income. The formula is:

Operating expenses ÷ Gross income = Operating expense ratio

This ratio should be measured on a trend line; as a property ages, the ratio will probably increase. The ratio
can also be compiled for similar properties of approximately the same age, which can be used as a perfor-
mance benchmark.

EXAMPLE

A four-unit rental property earns $96,000 of rental income, plus $4,000 of other income, resulting in total annual gross
income of $100,000. The year’s operating expenses for the property totaled $31,000. Thus, the operating expense ratio
for the property is 31%, meaning that 31% of the gross income was spent on operations.

The operating expense ratio is useful as an overall measure, but it does not split out the fixed and variable
components of operating expenses. The property manager should be aware of these classifications, since
variable expenses are likely to change in accordance with the level of occupancy, while fixed expenses
(such as property taxes) will be incurred even if a property is empty.

Return on Investment
The return on investment is the most essential investment measurement for a property, since it indicates the
interest rate that the investor is earning on invested funds. The calculation is to divide net operating income
by the amount of capital invested, for which the formula is:

Net operating income ÷ Capital invested = Return on investment

EXAMPLE

An investor pays $3,000,000 to acquire a six-unit rental property. In its first year, the property generates net operating
income of $360,000. This results in a return on investment of 12%, which is calculated as follows:

$360,000 Net operating income ÷ $3,000,000 Capital invested = 12% Return on investment

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 Property Management Accounting

Cash Flow
Cash flow is the amount of cash generated by a property after all expenses associated with it have been
paid. It is calculated by subtracting debt servicing costs from net operating income, where debt service is
the principal and interest payments associated with a mortgage. The formula is:

Net operating income – Debt service = Cash flow

Some portion of this cash flow may need to be set aside for capital expenditures or reserves, and some will
likely be required to pay for income taxes. Thus, the actual amount of cash flow that a property owner can
retain is likely to be significantly smaller than the amount indicated in the initial cash flow calculation.

EXAMPLE

A property generates $400,000 of net operating income. The owner also must pay $275,000 in principal and interest
payments to a lender, so the amount of cash flow associated with the property is $125,000. In addition, the owner has
an incremental tax rate of 35%, resulting in after-tax cash flow of $81,250.

Summary
The basic accounting entries associated with property management are relatively few in number and can be
easily learned within a short period of time. The main problem with this type of accounting is ensuring that
entries are made for the correct properties. This is a particular problem when a property manager is routinely
dealing with dozens of owners, which increases the risk of inadvertently making entries for the wrong
properties.

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 Property Management Accounting

Review Questions
1. A property manager typically elects to maintain the following trust accounts, except for:
a. Reserve fund account
b. Operating account
c. Security deposit account
d. Brokerage account

2. A rental payment varies with the future amount of a specific factor that is not related to time. This type
of rent is called:
a. Prepaid
b. Deferred
c. Contingent
d. Pass-through

3. A common interest realty association has the following characteristics, except for:
a. Owners own specific lots or interior spaces
b. Owners make an initial equity investment in the association
c. Owners are assessed an amount to fund the association
d. Owners have an undivided interest in common property

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 Answers to Review Questions
1. A property manager typically elects to maintain the following trust accounts, except for:
a. Reserve fund account
b. Operating account
c. Security deposit account
d. Brokerage account

a. Incorrect. A reserve fund account is used to amass funds that will be needed periodically to
make capital expenditures.
b. Incorrect. An operating account is used to accept tenant payments, as well as to pay for oper-
ating expenses.
c. Incorrect. A security deposit account is used to track security deposits held on behalf of tenants.
d. Correct. A brokerage account is not needed by a property manager. This account allows
an investor to deposit funds with a licensed brokerage firm, and which is used to place
investment orders through the brokerage.

2. A rental payment varies with the future amount of a specific factor that is not related to time. This type
of rent is called:
a. Prepaid
b. Deferred
c. Contingent
d. Pass-through

a. Incorrect. A prepaid payment has been received from a tenant prior to the date on which it is
due.
b. Incorrect. A deferred rent payment involves the granting of free rent to a tenant, usually at the
beginning of the lease period.
c. Correct. Contingent rent arises when a rent agreement stipulates that the property man-
ager be paid an amount that is based on a specific factor not related to time, such as a
percentage of a tenant’s gross sales.
d. Incorrect. A pass-through billing to a tenant involves charging through expenses initially in-
curred by the property manager.

3. A common interest realty association has the following characteristics, except for:
a. Owners own specific lots or interior spaces
b. Owners make an initial equity investment in the association
c. Owners are assessed an amount to fund the association
d. Owners have an undivided interest in common property

a. Incorrect. The owners typically have direct ownership of the property that they occupy.
b. Correct. An association is funded by ongoing owner assessments, not by separate equity
investments by the owners.
c. Incorrect. Owners are required to make periodic payments to the association, both for ongoing
maintenance and repair activities and for special assessments to replace more expensive capital
items.
d. Incorrect. The owners typically have a general interest in the common property; that is, they do
not have specific ownership rights in regard to certain elements of the common property.

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 Glossary
A
Accrual. A journal entry that allows an entity to record expenses and revenues for which it expects to expend
or receive cash, respectively, in a future reporting period.
Accrual basis of accounting. The practice of recognizing revenue when earned and expenses when
incurred.
C
Capital expenditure. The use of funds to upgrade or acquire assets.
Capitalize. An item is capitalized when it is recorded as an asset, rather than an expense.
Cash basis of accounting. The practice of only recording revenue when cash is received, and expenses when
cash is paid.
Cash flow. The amount of cash generated by a property after all expenses associated with it have been paid.
Chart of accounts. A listing of every account used in a general ledger.
Common interest realty association. An association of owners that is responsible for the provision of ser-
vices and the maintenance of property that is shared by or owned in common by the owners.
Contingent rent. A rental payment that varies with the future amount of a specific factor that is not related
to time.
E
Economic entity principle. The concept that the recorded activities of a business entity will be kept separate
from the recorded activities of its owners and any other business entities.
F
Fiduciary. A person or other entity that administers assets on behalf of another party.
P
Pooled trust account. A bank account in which all property owner funds are maintained in a single bank
account.
Property management. The management of real estate by a professional property manager, working on
behalf of the owner of the property.
Property reserve. Funds to be kept on hand for unexpected expenses related to a rental owner’s property.
R
Rent roll. A listing of the rent earned from a property.
Rental ledger. A ledger that contains all pertinent information about each tenant.
S
Security deposit. A sum paid by a renter when a lease begins, and which can be used to pay for any damages
caused by the renter.

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 Index
Accrual basis of accounting .......................................4
Bank service charges .................................................2
Capital expenditures ................................................ 12
Cash basis of accounting ...........................................4
Cash flow ................................................................. 18
Chart of accounts .......................................................2
Common interest realty association ......................... 16
Contingent rent ........................................................ 11
Deferred rent payment ...............................................8
Earned interest ...........................................................2
Economic entity principle ..........................................1
Fiduciary role.............................................................1
Financial reports ...................................................... 13
Management fee payments ...................................... 12
Operating account ......................................................2
22
Operating expense ratio ........................................... 17
Ordinary repairs ....................................................... 12
Pass-through charges .................................................9
Pooled trust account...................................................1
Prepaid rent .............................................................. 10
Property owner payments ........................................ 12
Property reserve payment ..........................................8
Receipt of rental payment ..........................................6
Receipt of security deposit.........................................6
Rent roll ................................................................... 13
Rental ledger ............................................................ 15
Reserve fund account.................................................2
Return on investment ............................................... 17
Security deposit account ............................................2
Trust fund deposits ....................................................2
Withholding from security deposit ............................7
 Final Examination
The final examination for this course is provided below. Feel free to circle your choice for the best answer
to each question. To enter your answers online and receive an immediate grade and completion certificate,
follow these steps:
1. Go to www.accountingtools.com/cpe
2. Click on the “Access the Training Module | Complete a Test” button near the top of the page.
3. Login with your user name and password.
4. Select the Take a Test option and then select the Programs option. Click on the program that you
want to take.
5. Take the test. You can stop and restart the test at any time.

1. A property manager acts in a(n) ___ role for the owner of a property.
a. Attorney
b. Fiduciary
c. Financier
d. Escrow agent

2. The following is a type of equity account that might be included in the chart of accounts for a property
owner:
a. Owner draws
b. Security deposits
c. Tenant assistance payments
d. Pass-through charges

3. The following is usually considered a non-recoverable operating expense:

a. Facility staff compensation
b. Cleaning fees
c. Property taxes
d. Leasing costs

4. The cost of an asset replacement can be capitalized, subject to this rule:

a. That the asset being replaced is retained in the accounting records
b. That the associated depreciation is recognized on an accelerated basis
c. The benefits from the expenditure will flow to the tenant
d. The cost of the item can be reliably measured

5. An example of a common interest realty association is a:

a. Real estate developer
b. Mortgage lender
c. Cooperative housing corporation
d. Municipality

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