Where does cash flow come from?

Atlanta, Georgia

Where does cash flow come from?

Member since 2020 · 19 posts · 29 votes

Where does cash flow come from?

I find that most people have never considered this question. When I ask, “How much money do you need to produce, in passive income a month, to be comfortable?” the average answer is $10,000. Cash flow does not produce cash flow. Equity produces cash flow. If you want $10,000 a month in cash flow, you need $1.5 million in equity producing an 8 percent annual return.

$1,500,000 × 0.08 = $120,000$120,000 / 12 (months) = $10,000 per month

The math is simple. No equity equals no cash flow. If you want cash flow, you need equity in something that is producing cash flow. For every $10,000 you want in cash flow, you need another $1.5 million at work for you in an investment. Something has to go to work—either you or your money. Most likely you will be the one going to work, until the money does.

If you have a financial goal of $10,000 (or more) a month, you really have a goal of producing the equity that produces the cash flow, not the cash flow itself. This is a real estate chicken-and-egg scenario. Which comes first? In this case, the answer is easy. Equity. No equity equals no cash flow.

This formula is not meant to serve as an investment model, nor is it meant to give you financial advice; it is simply to show you a concept that the average real estate investor has not considered. If you do not understand the origination of cash flow, you are not likely to produce any. In my example, I use $10,000 a month because that is the most common cash flow goal, and I use 8 percent as the return-on-investment number because that is a common amount of cash flow to receive from the average real estate investment (in my experience).I fully understand that, at times, real estate can produce more, and certainly less, cash flow than that. This is just a basic formula. Now that you understand where cash flow comes from, you can begin to understand the art of creating it. Build equity in real estate that produces cash flow. That’s it.

Now let’s look at a basic business model that will help you to achieve your financial goals in real estate. Let’s start with the concept that you have an initial goal of creating $1.5 million in equity, in income-producing real estate, that’s providing an 8 percent cash on cash return. Keep in mind that for every $10,000 more you want to make a month, you need another $1.5 million in equity. For example, if your goal is $20,000 a month, then you need $3 million in cash flow producing equity.

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Joe VilleneuvePro Member

Plymouth, MI · Member since 2013 · 13k+ posts · 19k+ votes

4y

Cash flow and equity are not connected directly. You can have one without the other, but you need both to have a good deal.

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Chris SeveneyBusiness Member
Moderator
Investor · VA · Member since 2015 · 21k+ posts · 19k+ votes
4y
@Bill Ham
Great post. We often see people ask how do I get to $10,000 a month in cash flow and your example is spot on. Of course the next question is how do I get to $1M and when you tell people “time”. Those that get it will get there but most seem to give up
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Joe VilleneuvePro Member
Plymouth, MI · Member since 2013 · 13k+ posts · 19k+ votes
4y
Cash flow and equity are not connected directly. You can have one without the other, but you need both to have a good deal.
7 Reply
Sergey A. Petrov
Real Estate Consultant · Seattle, WA · Member since 2022 · 1k+ posts · 784 votes
4y
It is not cash flow. Most people just want to know where money comes from and money comes from either your personal time working a job or running a business (still a job) or money comes from money where no or little of your time is involved. Once time is removed from the equation we start thinking about how our money can make us money. It could be real estate, it could be the stock market, you could deploy it as venture capital or you can buy a CD at 1% interest. And of course at the end of the day it is risk vs reward.
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Bill B.
Investor · Las Vegas, NV · Member since 2013 · 8k+ posts · 10k+ votes
4y
In real estate: Equity has nothing to do with cashflow. You can have cashflow with no equity or even negative equity. And you can DEFINITELY have a boatload of equity and NEGATIVE cashflow.
3 Reply
James Hamling
Real Estate Broker · Minneapolis, MN · Member since 2011 · 5k+ posts · 6k+ votes
4y
Quote from @Bill Ham:

Where does cash flow come from?
I find that most people have never considered this question. When I ask, “How much money do you need to produce, in passive income a month, to be comfortable?” the average answer is $10,000. Cash flow does not produce cash flow. Equity produces cash flow. If you want $10,000 a month in cash flow, you need $1.5 million in equity producing an 8 percent annual return.
$1,500,000 × 0.08 = $120,000$120,000 / 12 (months) = $10,000 per month
The math is simple. No equity equals no cash flow. If you want cash flow, you need equity in something that is producing cash flow. For every $10,000 you want in cash flow, you need another $1.5 million at work for you in an investment. Something has to go to work—either you or your money. Most likely you will be the one going to work, until the money does.
If you have a financial goal of $10,000 (or more) a month, you really have a goal of producing the equity that produces the cash flow, not the cash flow itself. This is a real estate chicken-and-egg scenario. Which comes first? In this case, the answer is easy. Equity. No equity equals no cash flow.
This formula is not meant to serve as an investment model, nor is it meant to give you financial advice; it is simply to show you a concept that the average real estate investor has not considered. If you do not understand the origination of cash flow, you are not likely to produce any. In my example, I use $10,000 a month because that is the most common cash flow goal, and I use 8 percent as the return-on-investment number because that is a common amount of cash flow to receive from the average real estate investment (in my experience).I fully understand that, at times, real estate can produce more, and certainly less, cash flow than that. This is just a basic formula. Now that you understand where cash flow comes from, you can begin to understand the art of creating it. Build equity in real estate that produces cash flow. That’s it.
Now let’s look at a basic business model that will help you to achieve your financial goals in real estate. Let’s start with the concept that you have an initial goal of creating $1.5 million in equity, in income-producing real estate, that’s providing an 8 percent cash on cash return. Keep in mind that for every $10,000 more you want to make a month, you need another $1.5 million in equity. For example, if your goal is $20,000 a month, then you need $3 million in cash flow producing equity.

So how about those doing STR? This math does not follow, I know many clearing $10k net with a whole lot less then $1.5m.
Or C4D strategy? Or arbitrage? Or.....
I get where your coming from, and there is much value ALTHOUGH it's yet another over-simplification using strategy specific tunnel vision.
1 Reply
James Hamling
Real Estate Broker · Minneapolis, MN · Member since 2011 · 5k+ posts · 6k+ votes
4y
side not, I'm a little let down, I was expecting to see Forky.
1 Reply
John MorganPro Member
Rental Property Investor · Grand Prairie, TX · Member since 2018 · 2k+ posts · 2k+ votes
4y
Most of my cash flow has come from redeploying equity into buying more cash flowing properties. I’ll take built up equity that’s doing absolutely nothing for me and buy more cash flowing properties. I’ve bought 8 cash flowing properties from cash out refis. And a couple properties with HELOCs. Use that equity to create good cash flow.
0 Reply
Joe VilleneuvePro Member
Plymouth, MI · Member since 2013 · 13k+ posts · 19k+ votes
4y
Quote from @Bill Ham:

Where does cash flow come from?
I find that most people have never considered this question. When I ask, “How much money do you need to produce, in passive income a month, to be comfortable?” the average answer is $10,000. Cash flow does not produce cash flow. Equity produces cash flow. If you want $10,000 a month in cash flow, you need $1.5 million in equity producing an 8 percent annual return.
$1,500,000 × 0.08 = $120,000$120,000 / 12 (months) = $10,000 per month
The math is simple. No equity equals no cash flow. If you want cash flow, you need equity in something that is producing cash flow. For every $10,000 you want in cash flow, you need another $1.5 million at work for you in an investment. Something has to go to work—either you or your money. Most likely you will be the one going to work, until the money does.
If you have a financial goal of $10,000 (or more) a month, you really have a goal of producing the equity that produces the cash flow, not the cash flow itself. This is a real estate chicken-and-egg scenario. Which comes first? In this case, the answer is easy. Equity. No equity equals no cash flow.
This formula is not meant to serve as an investment model, nor is it meant to give you financial advice; it is simply to show you a concept that the average real estate investor has not considered. If you do not understand the origination of cash flow, you are not likely to produce any. In my example, I use $10,000 a month because that is the most common cash flow goal, and I use 8 percent as the return-on-investment number because that is a common amount of cash flow to receive from the average real estate investment (in my experience).I fully understand that, at times, real estate can produce more, and certainly less, cash flow than that. This is just a basic formula. Now that you understand where cash flow comes from, you can begin to understand the art of creating it. Build equity in real estate that produces cash flow. That’s it.
Now let’s look at a basic business model that will help you to achieve your financial goals in real estate. Let’s start with the concept that you have an initial goal of creating $1.5 million in equity, in income-producing real estate, that’s providing an 8 percent cash on cash return. Keep in mind that for every $10,000 more you want to make a month, you need another $1.5 million in equity. For example, if your goal is $20,000 a month, then you need $3 million in cash flow producing equity.
There is absolutely no relationship between the amount of equity you have and the amount of CF you get based on that equity..
4 Reply
Patrick Snyder
Real Estate Consultant · Lansing, MI · Member since 2011 · 356 posts · 306 votes
4y
@Bill Ham
There's not much of a relationship between the 2 as far as I can tell. People
Have cashflow without equity all the time, or even negative equity. I would
Bet that there are people who overpaid for real estate, autos, and other equipment in the last year that they rent out for cashflow. I'm sure there are also products out there that are of little value that can produce cash even day, month or year (bicycles, tools, etc) .
The most successful investors find the diamonds in the rough, fill a need and add value to create both, one for short term, and one for long term. But idgaf about equity if my cashflow is high enough, and I would guess most others wouldn't either.
1 Reply
Allan C.
Rental Property Investor · Member since 2018 · 826 posts · 810 votes
4y
@Bill Ham cash flow comes from 1) capital equity 2) sweat equity 3) market arbitrage
Without understanding the trade-offs between the various factors you are not making complete investment decisions.
0 Reply
Joe VilleneuvePro Member
Plymouth, MI · Member since 2013 · 13k+ posts · 19k+ votes
4y
Quote from @Allan C.:

@Bill Ham cash flow comes from 1) capital equity 2) sweat equity 3) market arbitrage
Without understanding the trade-offs between the various factors you are not making complete investment decisions.
...but neither one depends on either one to exist.
0 Reply
Mike Dymski
Investor · Greenville, SC · Member since 2016 · 5k+ posts · 13k+ votes
4y
There is a only small percentage of the population that has $10k per month cash flow from real estate. The $10k posts are a distraction from investing...need to get 1 deal done before knowing if we want 40 properties.
3 Reply
Joe VilleneuvePro Member
Plymouth, MI · Member since 2013 · 13k+ posts · 19k+ votes
4y
Quote from @Allan C.:

@Bill Ham cash flow comes from 1) capital equity 2) sweat equity 3) market arbitrage
Without understanding the trade-offs between the various factors you are not making complete investment decisions.
How exactly does CF come from 1) capital equity 2) sweat equity 3) MA?
0 Reply
David A Lisowski
Rental Property Investor · Inlet Beach, FL · Member since 2018 · 199 posts · 111 votes
4y
Equity is only an asset if you can tap into it.
It doesn't generate cash-flow.
For example, my long term rental currently has a boatload of equity, but the lease rent is the same as 6 months ago. My equity has probably doubled but my cash-flow is the same. It'll stay the same until the current tenant leaves, and a new one signs a lease with increased rent.
Our previous STR (which is currently our Primary), also has a boatload of equity, only some of which we have access to via a HELOC which we used to buy the investment LTR. Since this is currently our primary home, the cash-flow is $0 (you could argue its negative). However, when we vacate and return this to the cash-flow market as a STR, my estimate is that we will have superior cash-flow to our LTR.
Can we hit $10,000 per month between the two? Probably not. The STR would need one hell of a year.
Do we have more than $1.5M in equity? Probably not, but we are closer to that than we are hitting $10k cash-flow per month.
1 Reply
Allan C.
Rental Property Investor · Member since 2018 · 826 posts · 810 votes
4y
Quote from @Joe Villeneuve:

Quote from @Allan C.:

@Bill Ham cash flow comes from 1) capital equity 2) sweat equity 3) market arbitrage
Without understanding the trade-offs between the various factors you are not making complete investment decisions.
How exactly does CF come from 1) capital equity 2) sweat equity 3) MA?
Capital Equity is the example OP noted, and for those with reduce leverage.
Sweat Equity is being a price taker instead of a price maker (brrrr crowd, self-managing vs use PM, those who find discounted assets... and so forth).
Market Arbitrage is vague, but I define it as getting into a market before it reaches efficiency. I should have simplified it to "Market Timing".

I agree that the factors are not dependent on each other in entirety, but you can trade them off to an extent. Those who got into a good market at the right time don't need CE or SE. Those who don't have much CE need to bring SE. If you have a lot of CE then you don't need SE or MT. There are plenty of nuances, but enough for today.
0 Reply
Mike Dymski
Investor · Greenville, SC · Member since 2016 · 5k+ posts · 13k+ votes
4y
Tough crowd. The OP is just suggesting that, absent creative funding, we need money to make money...and suggesting the approximate amount of it. It's not unreasonable and obviously does not account for all the nuances available in REI.
4 Reply
Joe VilleneuvePro Member
Plymouth, MI · Member since 2013 · 13k+ posts · 19k+ votes
4y
Quote from @Allan C.:

Quote from @Joe Villeneuve:

Quote from @Allan C.:

@Bill Ham cash flow comes from 1) capital equity 2) sweat equity 3) market arbitrage
Without understanding the trade-offs between the various factors you are not making complete investment decisions.
How exactly does CF come from 1) capital equity 2) sweat equity 3) MA?
Capital Equity is the example OP noted, and for those with reduce leverage.
Sweat Equity is being a price taker instead of a price maker (brrrr crowd, self-managing vs use PM, those who find discounted assets... and so forth).
Market Arbitrage is vague, but I define it as getting into a market before it reaches efficiency. I should have simplified it to "Market Timing".

I agree that the factors are not dependent on each other in entirety, but you can trade them off to an extent. Those who got into a good market at the right time don't need CE or SE. Those who don't have much CE need to bring SE. If you have a lot of CE then you don't need SE or MT. There are plenty of nuances, but enough for today.
Capital Equity, as in "buying" the initial equity with the down payment, increases the cost of the property with a larger DP. The CF might be larger due to the decrease in mortgage payment, but it's a step backwards to profits. The first role of CF is to recover the cost (down payment), so the larger the DP, the longer it takes to get to profitability.

Sweat equity, doesn't have anything to do with CF...in any shape of form.

Market Timing is just another way of saying Market Analysis...which is more important than property analyses since the Market dictates the current value of the property for both PV and rents...which in turn means profits and CF. However, a higher PV (market value) doesn't mean higher profits or CF, it just means the PV is high. Profits and CF are based on the spread between the entrance and exit of the cash...not either/or.

Does Market Timing influence CF? Yes,...but there is no way you could ever put a formula together where there is a specific dollar amount of cost or PV that generates a specific CF or profit.
0 Reply
Randall AlanPro Member
Investor · Lakeland, FL · Member since 2017 · 1k+ posts · 1k+ votes
4y
Quote from @Bill Ham:

Where does cash flow come from?
I find that most people have never considered this question. When I ask, “How much money do you need to produce, in passive income a month, to be comfortable?” the average answer is $10,000. Cash flow does not produce cash flow. Equity produces cash flow. If you want $10,000 a month in cash flow, you need $1.5 million in equity producing an 8 percent annual return.
$1,500,000 × 0.08 = $120,000$120,000 / 12 (months) = $10,000 per month
The math is simple. No equity equals no cash flow. If you want cash flow, you need equity in something that is producing cash flow. For every $10,000 you want in cash flow, you need another $1.5 million at work for you in an investment.

I don't disagree entirely with the OP, but I would point out that the 8% figure is more if you are a cash buyer. Using leverage (financing your properties) I think your return could be much closer to 25-35% - lowering your equity required considerably. Example: 4 years ago when we were heavily buying properties, my model was to finance properties at about $75k / door that would net me $500 a month after principle, interest, taxes, insurance and a maintenance reserve of $100/month. This meant that I could buy a $150k duplex, and net $1000. I would have to put 25% down ($37,500), and with closing costs I probably had $41k in the property. I could rent each side for $1,000 a month and would net 50% of this after PITI and the reserve. The $12,000 net profit divided by the $41,000 invested gives me a COC return of 29.3%. And if being 100% accurate - I probably don't even have to include the maintenance reserve in my calculation - making my net profit $13,000 and a COC of 31.7% - but will stick to the lower number here. The same property using cash would be 7.7% return (using $155,000 total invested)

The really remarkable thing is that in a span of 4 years, all of our properties have more than doubled in value - with some great buys we did now worth 3.5 times what we paid for them!! We have cash out refinanced several properties to lower interest rates (up through last year), and also sold several - taking the gains and paying off other properties. By paying off other higher interest rate properties, we actually maintained THE SAME cash flow we had after selling off the properties we wanted to get rid of (ie. the loss of income from the sold property was completely offset by getting rid of the financing on another property!). That was something I never considered possible - but in the appreciating market it worked for us multiple times! We also did a consolidation loan to reduce the number of Fannie Mae loans we had and lowered our interest rates as well. We went from having 19 Loans to just 9, overall putting us in a much stronger financial position.

Using those figures, your math would look like this: $120,000 (annual income - $10k/month) / 0.293 = $409,556 equity required to cash flow $10,000 / month. Or to put it in the same format as the OP: $449,556 * 0.293 = $120,000 / 12 months = $10,000 per month.

I will be the first to say that finding those same number would be difficult in today's over-charged market... but would argue that the $10k figure could be done for much less than $1,500,000 if using leverage.

All the best!

Randy

0 Reply
Scott Mac
Austin, TX · Member since 2019 · 5k+ posts · 5k+ votes
4y
Where does cash flow come from.

Here is how I would explain it to a 12 year old.

This is the city---Los Angeles California.

There is this lady and her name is Freida (she gets the cash flow).

A couple of years ago Freida and her husband James decided to buy a 4-plex rental and live in one of the units.

They worked hard fixing it up and making it a nice place for all for all.

Not the star of the neighborhood, but clean, attractive and well priced.

At first it was hard because they had to put extra fix up money into the place.

But eventually that was pretty much over with, but they really didn't have a lot of "Cash Flow" leftover after bills to spend as profits.

This is because their lender ate up a lot of the cash flow (with their 3.5% down loan).

So James decided he wanted to make a few extra bucks and took a pottery class at the local community college.

So he could learn to make pottery, and sit by the roadside on a blanket selling clay pots -- after coming home from his primary job as a Pet Detective.

Freida says no to the class, afraid James will run off with some fellow young pot maker in a tight skirt.

But James presses on and signs up for the class anyway--determined to make some extra money.

Well a couple of days into the class, poor James is killed in a Kiln explosion--completely accidental.

Freida was emotionally devastated, but luckily had a large insurance policy on James, which she used to pay off the 4-plex and also buy herself a nice small SFH near a Starbucks.

So now Frieda owns the 4-plex all by herself, no bank, no James, and the rents all come to her 100%, and now she is renting out 4 apartments vs 3 as before.

In one of the apartments lives a renter family, Bob, his girlfriend Janet and their two little kids Bert and Ernie.

Bob works putting tires on peoples cars all day and Janet works part time at a a doctor's office.

They intend to get married one day but currently are not.

They qualify for Section-8 rent assistance and pay a percent of the $1000 a month rent.

The American taxpayers pay the balance of their rent via Section-8.

The other 3 apartments are filled with Market Rent payers at $1,000 a month.

So Frieda gets cash flow of $4,000 a month. It comes from the hard work of the renters, as well as from the hard work of the American Taxpayers who pay the percentage of rent for Section-8.

Now if Freida decides to get a bank loan against the 4-plex, she will have to share a percentage of the cash flow with the bank in return for a "Ball of Cash" right now.

That "Ball of Cash" will reduce her Equity in the Apartments by some percentage, but over time as the apartments become more valuable (as they usually do) and the loan pays down her Equity percentage will become greater.

And to this very day, every time Freida sees a Clay Pot, she breaks down in tears.

(and the names have been changed to protect the innocent).

0 Reply
Tony Kim
Rental Property Investor · Los Angeles · Member since 2018 · 844 posts · 1k+ votes
4y
Quote from @Mike Dymski:

Tough crowd. The OP is just suggesting that, absent creative funding, we need money to make money...and suggesting the approximate amount of it. It's not unreasonable and obviously does not account for all the nuances available in REI.

Agreed. We can play the semantics game all we want, but you can't get away from the fact that pretty much everything will produce cash-flow if you put enough money down. There is no secret sauce.... obviously everything is dependent on finding the right deal where you can put very little money down and still be swimming in monthly incoming cash. But these types of deals aren't exactly growing on trees these days. Even examples from 1 or 2 years ago would legit, not apply to today's market.
1 Reply
James Hamling
Real Estate Broker · Minneapolis, MN · Member since 2011 · 5k+ posts · 6k+ votes
4y
I have to make some serious corrections here that down payment size does NOT = cash flow. It does not!

One simple example.

A person buys a 4-plex, put's down 40%. By what many are saying here they will have big cash flow, because DP = CF, right. What if I said they have NEGATIVE C.F.?

Because they do there own PM and suck at it. The new landlords thought working with some assistance program would be great, guaranteed rents they said for first 90 days, great. BUT within days of tenant coming in everything was breaking. They should have big Cash Flow but every month it's one thing after another, replacing and repairing items galore. And they equally suck at hiring vendors, so they had a few who took DP's and never showed up, so double paid, or other times they hired a contractor who hired a sub who hired.... and it cost a fortune to do a few hundred dollar job. And then after 90 days nobody is paying there rents! Now it's legal costs to evict!

Just buying a place makes $0.00 money, it actually earns a substantial liability of bills. It is the OPERATIONS that monetize the asset into producing gross revenues that lead into net revenues ie Cash Flow.

So, in reality, size of down payment and leverage can impact CF, it DOES NOT determine it.
1 Reply
Bill Ham
OP
Member since 2020 · 19 posts · 29 votes
4y
Interesting replies!
This formula was not meant to be strict financial advice but a generalization of how to build a business in real estate.
If you don't think you need equity in the RE business-
1. You don't understand equity. Equity can be created without putting down any money (all though it does help) and yes if we put down enough cash anything will cash flow. You can also create equity in a deal that you don't actually own. Making problem solving offers can create equity through the use of creative financing. Cash, creativity and solutions can all provide equity in a deal.
2. Your probably not actually in the RE business.
The formula above is meant to provide a general point that if you are not actively building equity in your portfolio...you are just being active. With that point of view you are not ever going to have anything other than your next deal. Either you are going to get up off the couch and go to work or your equity is.
Equity = cash flow
Fancy acronyms = a job in RE
0 Reply
Patrick Snyder
Real Estate Consultant · Lansing, MI · Member since 2011 · 356 posts · 306 votes
4y
@Bill Ham
Equity does not equal cashflow. Creativity and problem solving can and do, but equity alone doesn't guarantee cashflow. I know plenty of people who have bought properties and have had immediate equity, but have lost money. These same people think because the house is "worth" more than they owe, it should produce income, but that's just not always the case. It's not difficult to create income streams without equity, in real estate or other business ventures. And, in some cases, equity can be a liability to which many people are adverse.
1 Reply
Joe VilleneuvePro Member
Plymouth, MI · Member since 2013 · 13k+ posts · 19k+ votes
4y
Quote from @Bill Ham:

Interesting replies!
This formula was not meant to be strict financial advice but a generalization of how to build a business in real estate.
If you don't think you need equity in the RE business-
1. You don't understand equity. Equity can be created without putting down any money (all though it does help) and yes if we put down enough cash anything will cash flow. You can also create equity in a deal that you don't actually own. Making problem solving offers can create equity through the use of creative financing. Cash, creativity and solutions can all provide equity in a deal.
2. Your probably not actually in the RE business.
The formula above is meant to provide a general point that if you are not actively building equity in your portfolio...you are just being active. With that point of view you are not ever going to have anything other than your next deal. Either you are going to get up off the couch and go to work or your equity is.
Equity = cash flow
Fancy acronyms = a job in RE
Your explanation doesn't help...it just makes your theory worse.
Equity still has no relationship to cash flow, other than you need both when you invest. However, since you can have one (either one) without the other, they are NOT dependant on eachother to exist. Therefor, they are NOT equal to eachother.
0 Reply
Bill Ham
OP
Member since 2020 · 19 posts · 29 votes
4y
@Joe Villeneuve I will simply refer you to points 1 & 2 as stated above.
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