When buying rentals - Is Cash flow your only consideration
Landlord · Seattle, WA · Member since 2010 · 3k+ posts · 1k+ votes
When purchasing real estate as a rental. Most of us will spend a considerable amount of time to insure that it cash flows. Not so many years ago I ran into investors that paid much less attention to cash flow and their big consideration was appreciation.
In my opinion cash flow is important but other issues must be considered as well. You might be able to find a property that could cash flow very well for a couple of years and because of local market conditions become nearly worthless.
Seems to me their is more to consider than cash flow. Any thoughts?
I start with cash flow, but I also consider:
Location--is the property and area likely to grow and
appreciate? Is it relatively close to me?
Security--Is it a safe neighborhood?
Condition and age of property--Don't want a high maintenance property with a bunch of CapEx around the corner.
Marketability--Will it be a desirable rental for quality tenants? Will it be easy to sell when it's time?
Finance-able--Can I easily get financing and when I sell in the future, will my buyer be able to borrow on it?
"Hopefully we can get others to see things the same way. I won't count on it though ;-)"
You've just got to show examples of the appreciation you are talking about. The problem is that it takes full cycles and we've been in a down cycle for a few years. People tend to look at recent and current trends as the new normal.
I think the real problem is that people think myopically. They fail to see how people may have different goals from theirs and thus provide poor advice that is devoid of perspective in many instances. It is obviously hard to do this via a message board, but many of the responses are simply close-minded.
Glad to see so many come to play in my sand box. Cash flow is important to me but I look for more than cash flow. The properties I buy have some potential for upside. I look for fixers. low occupancies, value add situations, good zoning all in areas that are likely to appreciate.
I can get a good deal, it is in area of nice properties and has other characteristics that will add value over time. In this way I have found properties in good times and bad. There are opportunities in RE everywhere and at any time. You just need to know what they look like.
Cash flow puts money in my pocket today and builds equity. Appreciation and the value I can add to each property is my retirement.
I don't know why there is this idea on BP that investors who are investing for cash flow are doing that in war zones or unsafe neighborhoods. That is not correct, at least in my market.
There are some low middle to middle income neighborhoods where you can get upwards of $200/mo/door without investing in war zones. It's not always a choice between cash flow and appreciation; there are some markets where you can get both. I bought a duplex last year for $25k that sold for over $100k 5 years ago. I put about $10k into it and now the monthly rent I get from both the units is over $1,200/month. A few months after I purchase the property, I completed a refinance and was able to take almost all my money out of the property because of the higher market value.
People who live on either coast don't always have the choice of investing for both cash flow AND appreciation. Their only option seems to be appreciation, which is great, but there are some great and safe areas in the other parts of the country where you can meet the 50% rule and still make a lot more than $100/mo/door.
@ Mike M– “Appreciation will bring you MORE money, over allâ€. I agree that this statement holds true on either coast, but in Midwest, I believe you can make a LOT more money from cash flow than appreciation.
I think the purpose of the $100/month/door and 50% rule that investors talk about on BP is to prevent new investors from buying properties with negative cash flow and not to say that that’s the maximum cash flow you can get per unit.
Sharad, it is possible to have both appreciation and cash flow here in Seattle. It requires more effort and time, but I have been doing it successfully for 15+ years.
Charles, I agree with you that it requires more time and effort, but opportunities like these are out there.
For me personally, cash flow is much more important than appreciation. If I purchase a property today that cash flows, chances are it will cash flow in the future, but I can't say the same thing about appreciation.
mike made a great point...if anything cashflow should be emphasized more on BP! People come on BP talking about doing real estate full time. Well how are you gonna get there just chasing appreciation negative cashflow properties?? You'll go broke real quick! You need cashflow to sustain your business. You have this base of cashflow, maybe you can take a little less cashflow on a property and trade it off witha chance of speculation/apprecation. I don't see it the other way around though. Cashflow is the base you should build a rental business off of! :)
Not everyone is trying to live on the cash flow. Not everyone has the same goals as you do. People invest differently based on what their goals are.
Not everyone that posts about an investment expects to live on that money for the rest of their life.
yes bryan...reread my post...it was specifically aimed at the people who come on BP talking about leaving the '9-5' and living off their investments...you can't live off negative cashflow!
BryanA, granted I haven't been on BP long but I've never seen the 50% rule "qualified" as applying only to full-time investors who make a living off their rentals. In fact it is being put out as a rigid rule for new investors as well as experienced. I think that buying in low-end areas is the worst thing a brand new LL could do. Dealing with those type of properties and tenants takes alot of experience imo. I am talking with a new prospective LL where husband and wife have good FT jobs and an infant. I suggested a very good deal and they came back and said it doesn't meet the 50% rule. The property (150K) would produce a positive CF with their intended 30K down. Rents are about $1,400. The thing is that the area is exploding with growth and jobs, is exremely popular with tenants and....a new subway station is opening within walking distance in 2yrs.
I'm long term buy and hold and look for underpriced places in good areas with above average appreciation potential. For example; over the past 2.5 yrs I have purchased a number of properties that have already gone up 20-50%. Rents are up regionally 8% YOY. How many $100 doors would I need to deal with "in the hood" to get the couple 100K I've seen on recent purchases?
Maybe being a LL isn't for them with all the other responsibilities. No matter where you buy rental properties, it's not going to be a total passive income. There is a lot of work involved in owning a rental property.
I am sorry, but I don't think that's a very good deal. After deducting for operating expenses and mortgage payment of $720/month ($120,000 at 6% for 30 years), it is a negative cash flow property.
Which area is this where the prices have gone up 20-50% in last 2.5 years?? You may have bought the properties with equity in them, but I can't imagine a property appreciating by 20-50% in last 2.5 years.
You don't have to buy "in the hood" to make that $100/per number. The point of minimum $100/door and 50% rule is just to make new investors aware of the real world numbers and not let them get carried away with a property.
Sharad, I could give you particular developments if you want. Around the Northern Virginia area certain locations got really creamed (over-corrected) and we have had quite a bounce, I neglected to mention two properties that I bought as intended rentals and ended up flipping. I can look up the addresses, but I don't want my personal info out on the web. One I bought from Deutche Bank for 115K. It was 2-3 yrs old 3/2.5 SFD. After about 4k fix-up, I sold it immediately for 196K. Net was about 60K. Another was 104K and sold for 135K. Net 20K. There are plenty of examples of prices even doing a double since 2008. I'm not questioning whether certain areas of the country have good properties that meet the 50% rule (and I should have said that). I doubt you'll find that in DC.
So, if the 150K place is 220K in a few years (due to the factors I already cited) is this worse than one would get with the 50% rule? I bought something nearby last year for 115K, with rent at $1,300. I bought something a few months ago for 155K with current (also reo/short) comps at 175-200K. Rents are $1,500. All are within a mile of the new subway and the hottest location outside the beltway.
The 50% rule is being interpreted by new visitor's as applying to every investor and every situation. There are some people (like me) that are mom and pop and don't live off the CF, but want some good long term appreciation with good areas and quality tenants. It's a trade-off, I know.
Just as an example and not saying there are any guarantee's, we bought a house in 1985 for 95K a year before the subway opened. We sold it in 1987 for 189K (FSBO). Then we flipped a new TH (that we had actually owned only 2wks) and cleared 60K. Then we sold another new construction that we only lived in 6 months - purchase 234K and sale 360K (FSBO). There were a couple other smaller ones, but all this was in a 5yr time period and before we were 30. My point is that CF is not the only way to make money. Different avenues for different people.
cheryl, are we debating cashflow vs apprecation, or are we debating the validity of the 50% rule? there have been studies done that have proven teh 50% rule to be very accurate over the long term..i believe bryan hancock was the one who provided a link to one recently, but i'm not positive...depsite my young face, i have an old man's memory! at any rate, yes, owning a rental for only 2 years, your expenses will probably be lower than 50%..then again, i'm betting you weren't trying to live off of that cashflow...my post was directed at the people who come on BP and say they want to buy and hold rental property and make that their full time job..if that's the case, they should not be buying for apprecation, at least for their first few dozen units--they should be buying for cashflow...once they have that base income, they can look to other avenues of income in real estate, such as long term appreciation
BryanA,
I think CF vs appreciation is often the same as the 50% rule. And you are right, I've never lived on any of our RE profits. Most have always been redeployed via 1031. We will take the tax free personal residence sale though! We also had some loss-carry forwards from the time period before RE Professional tax treatment.
My point is that many people that come here don't plan on living off the CF. For instance, for DC couple I've been talking to wants 2 or 3 places to get paid off in time for their children's college tuition. They are new to investing and I don't get the impression that can/want to deal with the places you would have to buy around here to get the 50%. I don't mean to say one way is better than another.
Cheryl,
My point is not that cash flow is the only way to make money from rental properties. Appreciation is a great way to make money from rental properties and a lot of investors on BP are doing it successfully. I know Mitch uses that strategy very successfully.
The only problem I see with the statement above is the IF. What if it's not? Then what? You have been holding this property betting on future appreciation that's bleeding cash each month. There is absolutely nothing wrong with investing for appreciation, but there are some things you can do to protect yourself better for a worst case scenario.
1) First thing you can do is buy a property that cash flows at least $100/mo, this way at least you are not losing money if the property doesn't appreciate.
2) Second, you can try to buy a foreclosure and fix it to have some instant equity in the place. If you buy a property today for $150k, that's worth $150k and is losing a little money each month, then IMO it's not really a deal.
People who invest primarily for cash flow won't settle for anything that only generates $100/mo. I know I won't. I would only settle for $100/mo if there is around 20-30% equity in the property. Or I will buy a property for appreciation only if it generates at least $100/mo in cash flow and I will not buy a property for appreciation if I have to put money into it each month. I want the rental property to be self sustaining.
I hope I didn't confuse you.
"Buying for cash flow" generally will be traded off with investing "speculatively" on appreciation. I don't know many equity speculators that buy on margin with no hedge that get berated for being simpletons.
Different strokes for different folks....maybe these people both own huge cash cow businesses and can afford to speculate some. Maybe they don't need the $100/month/unit to live on. This doesn't make them idiots. It makes their investing style and situation different than those that are using the "rule" (of thumb) to drive 98% of their investment decision.
hahaha, I had to read this sentence multiple times to understand what you were trying to say. I hope it's only because English is not my first language. :lol:
Bryan, no one is calling people who invest for appreciation idiots. I sincerely hope my post didn't do that. I really apologize if I did, obviously, that wasn't the intention.
IMHO, investing for appreciation is not a great idea if you have got a property that's losing cash each month.
Sharad,
That doesn't confuse me and I never pay market. I believe that you need to make money going in or it's not the right deal. I know my target areas inside and out. I know what the future development will be. I know as best I can where appreciation will be best. It is no guarantee, but a very educated guess. I'm willing to be break-even at the outset (the tenants will eventually buy the place for me) if I believe there is significant upside. I know that many/most of you don't agree, but it works for me.
ex. I'd been looking on and off for a number of years for large waterfront acreage close to my home. In early 2005 (a very hot market) such a property was listed. I had it UC within 2 days with a 90 day feasibility. I had to show cash (875K). We sold a long term rental for 855K and 1031'd into it. We ended up with a mortgage of 375K and a little old stone house that rents for $1,450. The place was worth 2mil and still is (based on a recent CMA). I believe it will be 3mil in 10yrs. Do I care about 1K/month neg. (double using 50%) or making a couple million? Which do you think?
Nope...that wasn't directed at you. It was directed at the people that berate posters buying speculatively. We'll have a thread soon that will be a nice example. You won't have to wait long :wink:
I couldn't agree with you more on this one.
I think the only thing we disagree on is whether or not to buy a property for appreciation that's generating a negative cash flow.
Clearly, what you are doing is making you money. At this stage in my investing career, I wouldn't do it, but who knows if down the road in a few years I will be arguing with some 20 something investor saying the exact same things you are saying. :D
I am in real estate investing to make money. At the end of the day, it's about making money. It doesn't matter how you do it, as long as you aren't doing anything illegal. :lol:
If you can carry the bleed and are buying in a good location at the right time, it can make sense. I know some investors in SoCal who carried a negative cash-flowing property for several years because they knew it would go up in value, and they were right.
The thing with negative cash flow is it will eventually evaporate and become positive. Rents go up while your expenses remain relatively fixed. It happens time and time again, but not within the myopic span of a few years, it can take a decade or more. The key is the appreciation on the property dwarfed the cash flow in the meantime.
Naturally, I'm speaking for SoCal, where I live and invest, so I can't say any of this will work in another region. But consider if appreciation percentages remain the same. Look at absolute dollars. If a $25,000 shack in Cleveland doubles in value, whoopee. If a $200,000 shack in San Diego doubles in value, WHOOPEE!!! :wink:
Mitch,
I am not sure if I completely follow this. With both scenarios, you get 100% return on your investment. Couldn't an investor just buy 8 of the $25k properties in Cleveland and have the same absolute dollar return? What am I missing here?
i think we're all in agreement....if you can handle the bleeding, buy for apprecation and don't worry about the cashflow..for those of us that need the cashflow to live on (which was to whom i was speaking in my very first post if you read carefully), don't buy your first few investments on negative cashflow if you can't hold the mortgage payments...it's a simple as that...have a full time job and dno't mind breaking even, losing a few bucks and maybe gaining a fwe bucks here and there while waiting for a pay day?? go ahead and buy your appreciation play...want to live off your apartments and rental houses? invest for cashflow...