What to do with cash flow?

Question

Forgive me if this has been covered elsewhere. I searched but couldn't find the answer to my specific question.

I'm looking to buy my first rental property with a down payment/closing costs from my primary residence's HELOC (currently 4%) and a mortgage (3.125%) for the rest. The properties I've got my eye one can potentially cash flow around $175-200/month.

Longer term, my goal is to use gains to continue buying rentals.

My question is this -- what should I do with the cash flow to get ready to do the next property down the road? Put it into the HELOC? Make extra principal payments on the mortgage? Other options I'm not seeing?

Thanks so much for any advice!!

Brian G. · Answer

@Erik Donough extra mortgage payments become illiquid funds trapped as equity in the property. Paying down the Heloc is not a bad idea provided you have plenty of reserves to buy your next property. You can use Heloc funds for a down payment but you will need real capital, ie reserves, to qualify for more loans going forward if you want to scale. My vote is to simply bank the money along with any other funds you can until you have enough reserve funds for your next purchase utilizing the Heloc for your down payments. Once you are not in buying mode and you’ve purchased as many properties as you can utilizing the Heloc for down payments, then pay down the Heloc. Some use the Heloc as a down payment for one property at a time, ie to purchase, then pay it all down, and do it again. Rinse and repeat. It all depends on your available investing income, reserves, how fast you desire to scale, etc.

Account Closed · Answer

Thanks so much for your thoughts, Jody. I am familiar with Velocity, but I hadn't really thought of it from a business perspective. You bring up really good points.

Here's a question, though. If my safety net/retirement investments are making, on average, 7% annual returns, and my HELOC is at 4%, would it make more sense to pay the minimums on the HELOC and invest the rest of any positive growth?

Matt M. · Answer

@Erik Donough

“Can potentially cash flow $175-200/month”

Keep it liquid. That kinda cash flow won’t be around long.

Jody Sperling · Answer

When you're in growth mode, dump everything into the HELOC. Your whole paycheck, any side-business money, all your emergency funds.

Some people are afraid of this philosophy, and there are a few reasons to express a certain amount of caution, but if you make more than you spend, you won't be hurt by this philosophy.

People talk about cashflow as if you can predict the future, and they forget money today is more valuable than money tomorrow. Inflation is killing your money, and interest is killing your money.

If you apply every bit of surplus cash from your rental to the pay-down of your HELOC, you'll avoid the most interest; you'll replenish your funds faster; and you'll be able to buy sooner. (If you have an emergency, use the HELOC to pay for it.)

People always talk about the debt snowball in terms of paying off debt, but no one talks about the debt snowball in terms of leverage: greater leverage, faster growth. The more well-bought assets you have, the better they pay, and the better they pay the larger the discrepancy between what you owe and what you can pay.

I highly recommend you research Velocity Banking. Mike Adams, WiseGuysInTies, The Kwak Brothers all have fantastic videos online of how to use HELOCs to reduce debt while growing assets assertively. Best of luck to you!

Ruth Lyons · Answer

Account Closed I concur with the suggestion to dump it into your HELOC so you have the most "cash" possible for your next purchase instead of the mortgage which becomes trapped equity. That has worked well for me.

Account Closed · Answer

Thank you, Jack and Steve, for taking the time to reply. I really appreciate the advice.

So, let me ask a followup question, if I may. When you say build up a cash reserve for a future purchase, do you mean a strict savings account while the HELOC (down payment) principal stays static (10 years of interest only), or dump all cash flow back into the HELOC principal to allow me to use the HELOC again in the future to do a down payment on another property?

Thanks, again, for taking the time!

Account Closed · Answer

Hey Theresa. Thanks so much for sharing your thoughts! Your POV about easily accessible funds is something I hadn't thought about.

Yes, the plan is to cash out refi once there's enough equity to pay off the balance of the HELOC (the good news is that our broker offers fee-free refinancing).

You're right about the access. Putting the cash flow into the HELOC month after month would certainly make funds more available easily, as opposed to a month or two long refinance process.

Thank you for weighing in!

Account Closed · Answer

If you are crunching the numbers the correct way and you buy properties at the right price with the right cash flow then you should not have to play money games to pay off loans quicker. With your cash flow of less than $200 (only $2400 per year) and you will have to pay about 20% unless you get some sort of depreciation credit then you will need that cash for extended vacancies, cleaning up tenants' messes, a roof, plumbing, or something you don't expect.

Your question is asked alot on BP and my answer is; real estate investors can make the most money when they have a bundle of cash sitting idle, even for many years, for when a super deal comes along like when the bubble popped in 2008. Between 2008 and 2010, I purchased 24 homes at auctions in Las Vegas for 25 cents on the dollar. At the time, I had several $million+ loans on properties and if I paid down the mortgage I could not have purchased the homes.

During the past few months, I sold all but two of the Las Vegas properties, paid the 25% capital gains tax because I did not want to do an exchange and I paid $1.2 million to pay of a 28-unit apartment building. Now, the money I save on the interest payment will be more than what the Las Vegas properties were netting and it will take about 9 months to break even for the loss I took for the pre-payment penalty and capital gains tax.

By holding onto my cash for several years without an anxiety problem, I made enough money in the Las Vegas properties to pay off a loan for $1.5 million for a 24-unit apartment building as soon as 2 properties in escrow close and I will still have another million dollars to buy another property, but with prices in Los Angeles at $350,000+ per apartment unit and $900,000 for 1200 sq ft homes I am going to put my money into a stock and option trading account and I will not invest in any stock or option unless I see a market dip so low I can't refuse the opportunity. With my money already in the stock trading account my cash will be available for a dip in the market and I will have the cash ready for super real estate investment. I don't have anxiety and can sit on my money for several years until something comes along that is a sure thing.

Steve Milford · Answer

I don't push any particular way; you have to do what is right by your comfort level and what you feel is best. If you prefer to pay down HELOC, then do that. Prefer to stock away straight cash then do that. I am currently in debt-pay-down mode right now, and though it doesn't make the "most sense" from a growth perspective, the lower stress and worry has more than made up for any returns I am not getting.

Alexandre Marques dos Santos · Answer

@Erik Donough

Heloc is a easy access for money while you prepare yourself for another acquisition.  Although Retirement is giving you a better return, you cant access it easily without incurring in penalty.

So better off putting into Heloc, paying down until you make enough to buy another property.  The money will save you interest and you will start saving more and more monthly.  That said you will quickly pay it fully.

Good luck

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