I have been looking at which is better, an appreciation market like San Mateo, CA, or a cash flow market like Houston, TX.
So.... which is the better investment?? What are your thoughts?? What mistakes do you see below?
I plugged in some basic info into the BP rental calculator based on a fictitious house(s). Here is what I found.
*Tax rates, rents, appreciation%, purchase price are all based on numbers I have typically/historically seen, or have first hand knowledge of base on my properties.
**San Mateo is a single house @$800K, tax of 1.1% and renting for $3800/mo. Appreciation is 8%YOY (base on my property)
***Houston is 4-houses @200K, tax of 2.5% and, renting for 2100/mo ($8400/mo total). Appreciation is 3%YOY (based on my property)
What is not accounted for in the rental calculator:
- The opportunity to take the Houston cash flow an reinvest into SFR's to further build the empire. The cash flow should be able to finance the 20% down on an additional 3-houses which would add ~$240K to the total property value in year 10 ($1.25M total) value in year 10).
- The Houston taxes are re-evaluated every year to match market value, where as the San Mateo house are taxed at the purchase price due to Prop 13. Meaning in year 10, the Houston house tax is ~$24.5K/year and the San Mateo house tax is ~$9000/year.
So.... Which is the better investment?? Appreciation vs. Cash Flow?
You can make money in either. But what this shows me is they are very different markets and call for very different strategies.
Here is the Houston houses (all 4-houses combined into 1 report)
Here is the San Mateo house (you can only get one at $800K these days :) )
Investing for cash flow is a much better and safer way to build wealth. When you play the appreciation game, it's like playing hot potato. When the music stops, you don't want to be the one holding the hot potato. People that are able to post gains in an appreciating market get lucky. It's hard to time the market as well. Plus, you have to pay short or long term capital gains when you sell, unless you 1031 exchange.
If you invest for cash flow, you get a lot of benefits. Your tenant pays down your loan, if you finance. And you get passive income each month. I am helping a lot of my clients who live in California do a cash out refi, and put that capital to work in other markets outside of CA. Or some people are selling the property all together and purchasing multiple properties in different markets. I had one client take over $300K in equity and they were able to increase their cash flow 50% or more. So, I would highly recommend you think about passive cash flow rather than playing the appreciation game.
This is an interesting comparison. I would argue you might find it hard to get a San Mateo home at $800K though, for what it's worth Zillow has the average at $990K which feels more appropriate to what I've seen them sell for. It's so hot right now, most will go 20% over list price.
I think it's a little optimistic to bet on a YoY steady 8% appreciation rate, especially for the long term. God help us in the Bay Area is that does hold up to be true =)
Now on the Houston homes you need to consider the additional expenses of maintaining 4 houses instead of 1 but also, the labor and materials in Houston are so much cheaper it might balance out a little bit.
For me it's an easy choice to opt for Houston in this scenario. The cashflow is too much higher and depending on how you do taxes also consider the California state tax around 8% while Texas has none.
You may even consider cashing out of those San Mateo properties and re-investing in a garden apartment in Houston while the marketing is ridiculous in the Bay Area though it might get even more insane in the coming years.
@Aristotle Kumpis I completely agree betting on appreciation is speculation. (gambling if you will). But in the SF peninsula it is a pretty good bet I will take any day. No way would I ever bet on appreciation in Houston.
@Ryder Meehan funny thing is that contractor labor costs are less in the SF bay Area than in Houston. Materials are about equal. The big difference is in the quality of contractors. Add the cost of bad quality and flaky contractors, and hands down the Bay Area wins. I have had to personally redo work because the bad quality of the contractor. I had one contractor do half a job and never came back. Try to get another contractor to follow half done work.
Michael - We bought our SFR (new) on the lagoon in Redwood Shores in Spring 1987 and sold it Spring 2013, which was another peak--got lucky with that.
I had done a lot of nice interior updates over the years, so there wasn't any of the original builder look left, but it wasn't all Wolf and Sub-Zero. It was in a great location, though, which certainly helped sustain its value.
Our CAGR over that time was 5.7% but, of course, selling it 7 years earlier (at the pre-recession peak) or at any of the prior peaks would have netted us almost the same dollars (and a CAGR around 8%). So 8% is certainly achievable--if you time it right.
And if you get through 2 cycles there you'll probably never lose money again. But we knew several neighbors that lost serious money when they moved in during one of the boom times and moved out during the subsequent slump. And renting during those times won't come close to carrying the house for you.
Cash flow is something I can put in my pocket now; appreciation I must wait for and the timing is unpredictable. Also what's the cost of realizing that appreciation, i.e. if you sell can you find an equal or better investment to put the funds into; if you refi, will your new mortgage eliminate any cash flow you had?
Also, here's an interesting article on what's happening with rental price appreciation, which is on the rise in both of these markets.
Thanks for the great CNN article share, I'm surprised to see SF at the top of that list with 15% despite rent control! Must be all the new luxury apartments going up. It's a great time to own rental property.. but then again, it usually is =)
@Sharon Tzib Good article but slightly off in my particular case. My San Mateo rentals rose only 5% but my property rose about 8.5%.
@Ryder Meehan I don't understand the rise in rent either. The only way I can raise my rent more than 8% is to have the tenant willingly move out. At least that is my understanding.
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