Right Down Payment Amount??

Question

Hi all, first time poster trying to learn before I buy my first rental property.  Question is, if I have the means to put a high enough down payment on a house to be cash flow positive (assuming my expense estimates are accurate, etc.) is that something that I should do?  I know that my COC my be lower, etc but my main concern since its my first property is being cash flow positive.  Thanks in advance!

Bill B. · Answer

I like the option of putting more down if you’re paying 7% plus interest. Very few people are offering a GUARANTEED 7% return.

But…as soon as you pay cash, now you have to compare it to a GUARANTEED 5% bank return on your money. If this is a $400k home, you have to make a lot more than $20k/yr in profit/cashflow.  You can get the $20k from the bank day in and day out. The rental might be vacant for a month,(8% loss) or a tenant might not pay for a month while you pay to evict them.(8-16% loss)  A $1,000 appliance/water heater, or a $8k rook or hvac unit might go out.(5-40% loss)  You should be paying a PM 8%. I’d say a save MINIMUM would be if you could earn that 5% return with 8 months of rent it’s better than the bank. Probably. Assuming it’s not a 50 year old home with lead paint, asbestos, lead pipes, etc etc. It’s easy to find tenants, population/jobs are increasing, and property taxes/insurance aren’t skyrocketing.

Real estate used to be the easiest choice of all time. First you were borrowing at 3-4%. Second, the bank was offering you MUCH less than 1%. Now the interest rates. Have doubled and what the bank is offering you is up 4-5x. To gain the same multiple return over the save bank, today’s investors should be making 4-5% what they were in 2020. (You were making 8% in real estate instead of 1% in the bank. Now you can make 5% in the bank and you still settle for 8% in real estate? That’s not a risk adjusted return close to what it was.)

Kevin Sobilo · Answer

@Mike Sfera, a few things about putting EXTRA money down on a property:

1. If your concern is cashflow, then your concern is about being short of cash at some point. Why not simply put that extra money in reserve savings for a rainy day then?!?

2. Extra money down is extra risk! Yes, these are small risks but you do have risks of loss when you invest in anything. For example, if you get foreclosed on or sued, the equity in your property could be lost!

3. Once the money is tied up in the equity of the property its "LAZY money".

If you have enough to put 40% down on 1 property at $100k and it appreciates to $200k you have profited $100k! However, if you put 20% down and but TWO properties at $100k each and they appreciate to $200k, then you have profited $200k by using the same money!!!

4. Once you put that money down on the property its EXPENSIVE to put it back in your hands to use it for anything else!!!

You would either need to sell and pay commissions, closings costs and maybe tax on some proceeds OR you would need to pay fees and closings costs to refinance. Either way once you put that money into the equity of the property it costs you money to touch that money again and redirect it to anything else.

Nicholas L. · Answer

@Mike Sfera

you got some great responses to this including from @Kevin Sobilo and @Bill B.

there is no right answer to this question.

right now, i am looking to minimize outlays on rental properties, and am having success with seller financing.  so i'm not interested in buying in all cash or putting a high payment down.  but that's just me.  if someone else comes along and wants to put 50% down on a great property, and they have sufficient cash and reserves, great!

with that said, should you increase your down payment to mask flaws in an otherwise terrible deal - an alligator that will eat you alive with deferred maintenance that is in a worse neighborhood than you think, but an agent sold you on it because it has new countertops?  no, you should not.

Chris Seveney · Answer

I recommend you look at it in several variations. First is, how much is needed to cashflow and what type of area is the property in where it could appreciate.

For example, lets say you need $100,000 down payment to get it to cashflow $200/mo. That is a 2.4% return on your investment and will it appreciate as that is what you are banking on. Would you be better putting the $100k in the stock market, or in a treasury bill at 4% or do private lending at 10-12%?

I look at it as what are my other options, where can I earn more BUT and a big but that most ignore, what is the risk profile of the investment?

Dan H. · Answer

Recognize any cash you add to down payment is increasing your cash flow by the rate of the loan.  Do you invest in RE for a 7% return?

I have made a lot of money in RE and negative cash flow is not a criteria that i typically ponder.  I look at total return.

My last purchase had horrendous initial cash flow.  At purchase the rents covered ~60% of piti.   My underwriting showed negative cash flow of almost $6k/month.

3 years later i am up ~$1m and have positive cash flow of over $4k/month.  The cash flow is poor for this value of an asset and my equity position.   But the $1m value increase has produced a good return (and why my equity position is so high).

Recognize when you increase your down, you are purchasing the cash flow at a rate qual to the interest rate.   You can do better.

Note i put forth effort in an attempt to maintain a leveraged position   With the recent rate hikes, my equity position has never been higher which i consider undesired (but teading 3% rates for over 6% rates is more undesired).  Paying more upfront than required is not something i would ponder.

Good luck

Andy Lanyi · Answer

@Bill B.

Here are a couple more things to think about.  Ground up construction, in another state.  Or buying something where you can put in an ADU always think about value add.  So put down minimum where it is breaking even, put in an ADU and sale.

Michael Garofalo · Answer

@Mike Sfera as I said originally, if it won't cash flow at 25% down, I would personally not buy it. That's just my criteria.

Corey Conklin · Answer

How you buy the deal isn't always the most important piece. Making sure the deal is a good one is the most important piece. If I can buy a great property at 70% ARV I'll buy it with cash all day long knowing I can refi out of it and get my money back.

I used to think that cash flow was the most important thing when buying real estate but really it isn't. Finding ways to recycle cash/buy equity is the name of the game. Find ways to get your money back out of deals! Obviously don't buy a deal that will put you in the hole every month but don't expect that you are going to be good on $300/mo. in cash flow either. One major repair and that's all wiped out (I see people gripe about that all the time)

The best use of your money is to find ways to make money from it. i.e. Find deals where you can by $1 with $.75. If you do that you'll be successful.

Right Down Payment Amount??

Most Popular Reply