Rental Property - Downpayment vs Cashflow?

11 Replies

Hey guys!

I'm a newbie out of West Michigan, been listening to podcasts, watching webinars & reading the blogs and forums trying to learn as much as possible as I begin my investing career.

I'll introduce myself & my situation in the appropriate forum, but I do have a question for the buy & hold crowd-

What % of the purchase price do you target on for your downpayment when analyzing deals for cashflow? I know other metrics like ROI and CoCR need to be accounted for too, but obviously the higher the downpayment, the higher the cashflow. I see Brandon Turner uses 20%, which is the general minimum for bank financing, how about the rest of you?

Would you drop 25, 30 or even 40% to get a property cashflowing where you wanted it, in that $100-200 per unit range if the other metrics worked out?

I'll add, I'm still working on getting my first deal, I don't want to get stuck in "analysis paralysis" mode, but I also dont want to rush in and make any huge mistakes either. I'm sure I'll learn a ton from my first deal when it is said and done. I'm still very curious to know how much you guys flex on that downpayment.

Thanks!

Andrew

@Andrew Russell   Many people put 20% down as it allows you to invest in other properties.  One caveat is it depends on the price of the home.  Paying cash on a $50K home vs a $250K home are very different.  What is the market like that you are looking in?  Where I am, there are no homes (including condos) under $130K.

If it's your first house you shouldn't need to put more down than 20%. In some cases you can cash flow with 3.5% down for an FHA loan. The main thing is make sure the rents in the area make it worth your while to buy. If a house rents for only 1000 a month and your mortgage is 900 it probably isn't going to be worth it.

Run those numbers multiple times.  And don't forget to account for things that need replacing like roof, ac, furnace, water heater, etc.

Don't do what I did and buy just because the gap from mortgage payment to rent rate is 400 dollars.  This was before I got educated on Bigger pockets.  After I add everything up I only cash flow $100 a month and that's why I live in it vs rent it out.  The PM monthly fee alone is $150 a month.

That's not to say you couldn't make it work. I have seen people do an FHA loan on a duplex, triplex with the renters covering the mortgage and then some. But it's very important to make sure those numbers work for you.

@Theresa Harris - thank you,

In the market I'm looking in, there are homes in around 100k which could become rentals without too significant rehab. Even some smaller SFH in the 70k-80k range. For my situation, 35% doesnt break me even with some rehab (not substantial). I'd still be able to pursue a second property afterwards.

Andrew

@Andrew Russell learn to use a calculator or spreadsheet and analyse the properties with various dp.Both available on BP. From a leverage side the less the better if in an appreciating market. Extreme example:$100000 with 40% dp or 8 properties with 5% dp. 3% appreciation. Your 1 house goes to $103000. Your 8 houses grow to $824000. Year 2 1 house = $106000. 8 houses =$848000. You still have to calculate cash flow but you need to open your eyes up to all possibilities. 

@Tim Herman & @Brent Paul ,

Thanks guys,

I am using the BP calculators, they are awesome! I should have clarified, this is my first rental property, not my first purchase. My loan is conventional, I'm not looking at house hacking.

I'm also trying to be realistic with myself, I dont have the confidence to grab 8 properties or anything like that. I just want to get one under my belt to gain some confidence and move on from there. I'll come up with financing for the future deals one way or another.

Sounds like I shouldn't entertain going much, If any higher than 20%.

Thanks guys

The lowest DP the better.  Any money that comes out of your pocket (DP) must be recovered before you start making a profit.  The recovery money comes from the CF.  Putting more money down to get higher CF is an illusion.

Example:  $100k Property; Loan terms 4.75% for 30 years; CF wo/loan = $750/month
A - 20% down - $20k DP; $80k loan; DS = $417/Mo; CF = $333/mo($4k/yr); payback DP = 5 yrs
B - 25% down - $25k DP; $75k loan; DS = $390/Mo; CF = $360/mo($4,320k/yr); payback DP = 5.78 yrs
C - 30% down - $30k DP; $70k loan; DS = $365/Mo; CF = $358/mo($4,296k/yr); payback DP = 7 yrs

Every year you hold a property means a greater chance of a CAPEX, vacancy, repair, etc...which comes out of pocket, and must be added to the $$$ cash needed to recover before you start making a profit.

The biggest illusion, and the worst rationalization you can do, is to think that by increasing your DP you can turn a negative CF property into a positive one.  All you're doing here is paying for all that negative cash flow upfront.



@Andrew Russell Post the analysis in the forums. You are not a pro member so you will be limited to 5 uses of the calculators. If you upgrade their is a post on forums button on the last page of the rental calculator only available for pro members. You can also download a spreadsheet in the files section of BP.

@Tim Herman

I ran the calculator and created a replication of it in a spreadsheet. That way I could add some functions into it like analyzing the impact if I used a HELOC to fund the down payments and rehab for future buys & some other things. I'll likely go pro anyway though, I really like the PDF view you can create, which is something I don't know how to replace in a spread sheet. I might be blind, but I also don't see where I can attach a screen shot in this reply.

Anyway, that being said, I have 5 properties I am going to check out later today that are close to solid flow at 20% down, just a little short of my cashflow goal per unit. That is why I was asking for opinions on how everyone views flexibility on the downpayment for buy & hold.

Originally posted by @Tim Herman :

@Andrew Russell cash flow is nice but not if it lowers your cash on cash return. How about you BRRR and have no money in the deal but only get $50 per month, you wouldn't take that. That's unlimited return on investment. They are paying you to own the home.

This is a great misconception about the BRRRR method...that when you refi, you get your cash back out. That's not true. If it was, you wouldn't have to pay for it again.

What's happening is you are "spending" your cash to buy/rehab the property.  The cash turns into equity, and is hidden (somewhere) in the floorboards, the drywall, the brick, etc...of the house.  Then, when you refi, the bank is selling you "new virtual money", using the cash in the "house parts" as collateral.  Your money is still in the house...just in a different form.  The cash you get from the refi loan, is the banks money.

Buying cash, and flipping is a form of getting your cash out since you don't pay for it when it comes out...and it comes out with "friends" (profit).

You are stuck in analysis paralysis it seems already. I would never suggest putting more than 20% down on a SFH investment as it won't change your interest rate or cash flow by much. You are better off saving the cash for repairs or second property down the road. Don't get caught up in figuring out cash flow based on 20 vs 30% down, first find a property that is priced well in a good area with great rental potential and everything else will fall into place and you will figure it out with time. I would also suggest finding someone to help you with your first investment purchase that also owns investments so they can help guide you on all of these things. Your cash flow calculations might not even be right as the property you are analyzing may be under rented by 50% anyways but you wouldn't know that unless someone with experience is helping you.

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