5 Ways to Cash Flow In "Appreciation Markets"

Let me start by saying my investment area of Portland is an awesome place to own real estate. That being said, it’s a very difficult place to purchase cash flowing rental property, just like many west coast and east coast metro areas. This is an “appreciation market,” not necessarily a “cash flow” market. I’m talking specifically about the close-in markets, which are higher demand areas typically seeing cap rates less than 5. Let’s think about that for a minute. If properties are providing 4-5% returns after all expenses, and mortgage rates are 4-5%, cash flow really only comes from the down payment. In fact, that only exists if you’re making interest only payments. Amortizing the loan results in negative cash flow, unless you put enough money down to offset the amortization part of the payment. This scenario makes purchasing rentals for cash flow a difficult proposition. Below are some ways where we have been able to add 10 cash flowing rental units to our portfolio over the past 8 months.

Utility Bill Back

A common trend in our multi family markets at this time is utility bill backs. Most units are not separately metered for water. Water/sewer costs are a large expense in Portland thanks to the “Big Pipe” project. Our duplexes typically bill out at $450 per quarter. Passing this expense on to your tenants is an excellent way to create some cash flow. We may be talking only $100-200 a month of additional net income, but that is significant in a market like Portland. Not only does $100 a month of cash flow create an extra $1,200 of income per year. That $1,200 of income per year equates to $24,000 of market value on the overall value of the asset, for properties selling at a 5 cap. This strategy can also be used for multi dwelling units that do not have separately metered electrical or gas.

Inherit Tenants

I wouldn’t recommend inheriting every tenant you come across, but inheriting a seller’s tenants is a great way to create additional cash flow. Consider our Portland market where rents have gone up 20%+ over the past two years. Inheriting a tenant that signed a lease 5 years ago and is now on a month to month agreement gives you the ability to increase rents without having to replace the tenant. Renters know that finding a new place is going to result in higher rent or a less desirable place to live. Add, in the stress of moving and you have a perfect win-win scenario. Your tenant can stay, you can increase rent and they can stay where they’re at while you avoid repairs associated with tenant turnover. We tend to give the existing tenant a break on the rent increase. We’ll offer a fair increase that creates more income, but is still less than market value. This gives them incentive to stay and provides the benefit mentioned above.

Rehab and Re-Rent

We’ve been able to “rehab” recent rental unit purchases for between $3,000 to $20,000 per unit. This is a low cost, quick renovation process that can bring in substantial value. The best way to get top of the market rent is to provide a freshly remodeled unit, located within a high demand area, having a high walk score. These types of units attract high credit score individuals, with steady income and assets in the bank. The value add creates equity and equity provides cash flow. Nothing better than equity and cash flow in my opinion.

Buy Directly From The Owner

The best way to purchase an income property (or any property for that matter) with the ability to create cash flow is by purchasing direct from the seller. Every seller we’ve purchased from this year gave us a slight discount. They were well aware of the discount, but were willing to do so because of our ability to be very easy buyers. We don’t require multiple inspections like most buyers working with an agent. We get all our physical onsite inspections lined up in the same day and enter the units once, albeit during a 4 hour window. This is a huge stress relief to sellers. Selling a tenant occupied property is stressful. Fear of vacating tenants due to a potential sale is a real problem and concern for most property owners. When you combine this small discount, inherited tenants, and dated units requiring small renovation budgets, increasing a property by a 6 figure market value is very real and possible in this market. $400 a month in additional net income creates $96,000 in value (assuming a 5 cap) and a very happy new landlord.

Self Manage Your Units

Property management isn’t for the faint of heart. It can be very cumbersome. However, the right kind of assets attract the right kind of tenants. Investing in A and B class rental properties, which is what inner Portland is mostly built-up with, can be a relatively easy management process. Property managers in our area charge between 7% and 8% of gross rents as well as substantial lease up fees. 7% on a $4,000 monthly income stream creates $280 a month in extra cash flow. Now this isn’t a value add as management is an expense allowance used when estimating net operating income. However, $280 is $280 and many times that is the difference between breaking even and creating a bank account on top of your vacancy and reserves allowances. As mentioned above. Class A and B properties attract A and B tenants. Management can be easy after the initial lease up.

I hope you find these tips helpful for generating your own cash flow in a difficult market. Happy hunting!