Capex wipes out cash flow for a year?

74 Replies

Thanks @Deanna Opgenort It appears I haven't factored in capex expenses into my monthly cash flow yet. I do keep a log of all expenses and cash in so I can see my actual cash flow. I don't need access now for the equity and don't plan to as I don't plan to buy any other properties at this point. It is just a nest egg for my future self. I appreciate all the responses. You have all helped me.

@Joe Villeneuve

Your math is all wrong. 

So, let's add this up.$650 (we'll take your average CF loss/yr) x 15 years = $9750. You paid it off, and have had the home for an additional 5 years with positive CF. Assuming the interest rate of 6% over the life of your loan, and the $85k loan, the monthly payments would be around $700/month...which, added to your $650/year loss (~$50/m) is now your cash flow = $700/month ($8400/year).

My total cash losses per year were about 650 so about 9750 total. I of course included principle and interest payments in my cash flow numbers.  I put down 10000 of my own money. So I invested, out of pocket a total of 19,750 My current cash flow is approximately 7 to 8000 per year after all expenses. Plus I have a house that I could easily sell as is for 165000. 

So, that means over a 20 year period, your cash profit is $42k, or $2100/yr. So you're happy with that?

Absolutely

My goal with my rental property was to build up an income stream in my retirement with rental property as an alternative to a 401K since I was self employed. If I had invested the entire 19,750 in some other investment 20 years ago at 11% returns per year (not very likely) I would now have 143,000. I do still believe that this house was a good investment. 

If you add the current value of 165,000 to the 42,000 you have a total return of 207,000 on a 20,000 investment. 

Originally posted by @Doug Garrison :

@Joe Villeneuve

Your math is all wrong. 

So, let's add this up.$650 (we'll take your average CF loss/yr) x 15 years = $9750. You paid it off, and have had the home for an additional 5 years with positive CF. Assuming the interest rate of 6% over the life of your loan, and the $85k loan, the monthly payments would be around $700/month...which, added to your $650/year loss (~$50/m) is now your cash flow = $700/month ($8400/year).

My total cash losses per year were about 650 so about 9750 total. I of course included principle and interest payments in my cash flow numbers.  I put down 10000 of my own money. So I invested, out of pocket a total of 19,750 My current cash flow is approximately 7 to 8000 per year after all expenses. Plus I have a house that I could easily sell as is for 165000. 

So, that means over a 20 year period, your cash profit is $42k, or $2100/yr. So you're happy with that?

Absolutely

My goal with my rental property was to build up an income stream in my retirement with rental property as an alternative to a 401K since I was self employed. If I had invested the entire 19,750 in some other investment 20 years ago at 11% returns per year (not very likely) I would now have 143,000. I do still believe that this house was a good investment. 

If you add the current value of 165,000 to the 42,000 you have a total return of 207,000 on a 20,000 investment. 

The equity build up you are talking about isn't profit to you...yet, it's the property's profit.  It's a trophy for buying a good property, but you can't do anything with it, so it has no real value...yet (again).  The value of your equity only turns real when it is converted to cash...which means you sell it, which may or may not be equal to the face value of that equity.  You're going to lose big parts of that value from all closing costs/fees plus all the taxes (can you say"capital gains").  The tax/financial rules you're counting on today may not be in play when this time comes.  Just look at the bills in congress today.

Now, let's look at the real loss here...the relationship between the cash (CF and equity) value and the true value of that cash, as in what that cash buys you today.  Let me say this, I group equity into the cash column in the sense that it is frozen cash, as opposed to liquid cash (CF).  Both examples of cash is what your cost is for the property because both give you the ability to buy value.

Here's the problem,  When you spend cash as a DP (let's say 20% for example) that buys you 5 times the face value of that cash.  When the equity increases, it does so on a 1 to 1 relationship with property value (appreciation).  This added equity, although it increases the total equity, is reducing the true value of the total equity.

Now, if the property is sold, and the solid cash is converted to liquid cash, and used to buy the next investment(s) as a 20% DP, all of it now has a true value of 5 times its face value.  The total equity doesn't change, but if you were to buy two properties just like the first one, your CF should also double.  If this is repeated whenever the total equity doubles the initial DP, you have a compounding effect on your returns for both PV and CF.

This doesn't change your desired goal of the CF replacing your 401k income upon retirement.  It enhances it...much faster.

Originally posted by @Gary L Wallman :

I'm in a different school of thought then Joe V., though I do respect his point.

I view any house purchase as an exchange of assets. Maybe not as liquid as cash but value still intact. In the old days, taking money out of a savings account paying 18% interest was tough. Today's .2%, not so much. As a consequence, having a 15 year mortgage simply defers your cash flow. It does not prevent it. While your bathtub may hurt your cash flow today by 3k, you saved 36k in interest on a 136k mortgage by financing over 15 vs 30 years. A no brainer to me.

I, personally am an all cash investor. It certainly was more difficult deferring property purchases until I could accumulate cash 15 years ago. Now, however, the cash flow on my 135 doors allows me to acquire a paid for property every month or so. Couldn't have done it with 30 year mortgages and 100's of thousands of dollars in interest.

I wanted financial freedom from real estate for my family, not for banks.

Respectfully,

Gary 

 Start with $100k in cash.  If you have two options to buy a $100k property.  One option is all cash, which gets you $10k in cash flow per year, the other is with a 20% DP which gets you only $5k in CF/yr.  

Questions:

1 - Who gets the better CF at the start?,  2 - Who buys more property value?, 3-  Who recovers their cost (cash) faster?, 4-  Who gets faster/higher appreciation?, 5 - Who reaches that retirement goal of no debt with needed income to retire faster?, 6 - How long?

Option 1:  All cash buy
# of Properties:  1
Total Cost: $100k (no loan)
Cost to REI (cash): $100k
Total PV at purchase:  $100k
CF/year:$10k
Yrs to recover cost:  10
Profit from CF during 1st 10 years: $0

Option 2: 20% DP
# of Properties: 5
Total Cost: $750k (DP + debt)
Cost to REI (cash): $100k (tenant is source of loan pmts)
Total PV at Purchase:  $500k
CF/year:$5k * 5 properties = $25k
Yrs to recover cost: 4 years
Profit from CF during 1st 10 years: $25k * 6 yrs = $150k

Now let's say the properties all appreciate at the same rate...a conservative 5%/year. 

Options                Cash             Debt
Start                   $100k            $500k
Year 1                 $105              $525
2                        $110              $551
3                        $115              $578
4                        $121              $608
5                        $127              $638

Let's say every time you reached your desired cash needed to buy the next property, buying the same way you did the first (All cash = $100, debt = $20k), how many properties, and when can you add properties?  This means when the CF reach $100k for the all cash buyer, and when the cf total equals $20k?  It will take the all cash buyer 10 years to buy property number 2.  It will take 1 year for the debt buyer to buy #6 (with cash to spare), then #7 in year 2, then 2 more in year 3 (using the unused CF from previous years), then...  

I'm not looking to buy and hold over 100 properties.  You don't need to.  If you were getting $5k from each property, and your goal was $100k in income per year, that's only 20 properties...unless you started buying bigger properties with bigger CF.

Questions:

1 - Who gets the better CF at the start?,
2 - Who buys more property value?,
3- Who recovers their cost (cash) faster?,
4- Who gets faster/higher appreciation?,
5 - Who reaches that retirement goal of no debt with needed income to retire faster?
6 - How long? 

I usually take the contrarian view point on max debt..  If one is young / or younger and has decided to make landlording a vocation then to scale fairly quickly max debt is basically mandatory unless your bringing in investors or start with a bunch of cash or have a very nice business that throws of copious amounts of cash or a executive type job that pays 500k or more a year.. 

if your plan is to slowly build a nice small manageable portfolio so that you can retire  then just look at @Bjorn Ahlblad example

retirement age 12 units  ( maybe more dont know) but 70k net a year according to his post with a paid for property . If your building max debt rentals at 100 to 200 a month net ( which unless you can really source undervalue is about where you end up )

how many doors do you need to achieve 70k net ?   U need 35 doors or more  thats a lot to manage thats a TON of debt to carry . etc. 

So while I fully understand the math behind all of the whats better formula you have to look at other aspects.. How hard is it to get to where you want to be when you retire. and I can tell you paid for free and clear property is a VERY nice place to be . Risk wise you cash flow per door is double or triple so you have less work to create this retirement income.. And suppliment that with you SS benefits and or retirement or other investments and there you go..

If your sole goal is to quit your job Like you see so many on BP want to do becuase the dont like their jobs and they feel real estate rentals is how they are going to get there.. Then yes your simply changing jobs and you have to set yourself up for max debt and managing all these doors its not a passive pursuit unless your buying NNN or very nice A class top end rentals etc.. If your like most BP folks going for max return they are landing in that C D sometimes B type tenant and that will be some work on the owners part either managing the manager or self managing..

So whats the long term goal..  me personally its free and clear.

Also keep in mind you have net worth and balance sheet factors for other types of debt  IE sponsor for up and coming syndicators who need a strong balance sheet partner ..  its nice to have a balance sheet with all assets and no debt.. the BANKS LOVE That.

Originally posted by @Joe Villeneuve :
Originally posted by @Gary L Wallman:

I'm in a different school of thought then Joe V., though I do respect his point.

I view any house purchase as an exchange of assets. Maybe not as liquid as cash but value still intact. In the old days, taking money out of a savings account paying 18% interest was tough. Today's .2%, not so much. As a consequence, having a 15 year mortgage simply defers your cash flow. It does not prevent it. While your bathtub may hurt your cash flow today by 3k, you saved 36k in interest on a 136k mortgage by financing over 15 vs 30 years. A no brainer to me.

I, personally am an all cash investor. It certainly was more difficult deferring property purchases until I could accumulate cash 15 years ago. Now, however, the cash flow on my 135 doors allows me to acquire a paid for property every month or so. Couldn't have done it with 30 year mortgages and 100's of thousands of dollars in interest.

I wanted financial freedom from real estate for my family, not for banks.

Respectfully,

Gary 

 Start with $100k in cash.  If you have two options to buy a $100k property.  One option is all cash, which gets you $10k in cash flow per year, the other is with a 20% DP which gets you only $5k in CF/yr.  

Questions:

1 - Who gets the better CF at the start?,  2 - Who buys more property value?, 3-  Who recovers their cost (cash) faster?, 4-  Who gets faster/higher appreciation?, 5 - Who reaches that retirement goal of no debt with needed income to retire faster?, 6 - How long?

Option 1:  All cash buy
# of Properties:  1
Total Cost: $100k (no loan)
Cost to REI (cash): $100k
Total PV at purchase:  $100k
CF/year:$10k
Yrs to recover cost:  10
Profit from CF during 1st 10 years: $0

Option 2: 20% DP
# of Properties: 5
Total Cost: $750k (DP + debt)
Cost to REI (cash): $100k (tenant is source of loan pmts)
Total PV at Purchase:  $500k
CF/year:$5k * 5 properties = $25k
Yrs to recover cost: 4 years
Profit from CF during 1st 10 years: $25k * 6 yrs = $150k

Now let's say the properties all appreciate at the same rate...a conservative 5%/year. 

Options                Cash             Debt
Start                   $100k            $500k
Year 1                 $105              $525
2                        $110              $551
3                        $115              $578
4                        $121              $608
5                        $127              $638

Let's say every time you reached your desired cash needed to buy the next property, buying the same way you did the first (All cash = $100, debt = $20k), how many properties, and when can you add properties?  This means when the CF reach $100k for the all cash buyer, and when the cf total equals $20k?  It will take the all cash buyer 10 years to buy property number 2.  It will take 1 year for the debt buyer to buy #6 (with cash to spare), then #7 in year 2, then 2 more in year 3 (using the unused CF from previous years), then...  

I'm not looking to buy and hold over 100 properties.  You don't need to.  If you were getting $5k from each property, and your goal was $100k in income per year, that's only 20 properties...unless you started buying bigger properties with bigger CF.

Questions:

1 - Who gets the better CF at the start?,
2 - Who buys more property value?,
3- Who recovers their cost (cash) faster?,
4- Who gets faster/higher appreciation?,
5 - Who reaches that retirement goal of no debt with needed income to retire faster?
6 - How long? 

 Joe,

Your point is well taken and I've seen you restate your position many times over on this forum.

Respectfully, you miss a couple of points that focus on my main concerns. First you assume property will always appreciate. I don't want to be the guy that leveraged a bunch of houses in 2005. Second, interest is a huge expense and it has to come from somewhere. I know you believe the tenant pays it. I don't. Whether it comes out of my pocket first or second, it still comes out.

Third, and most importantly, you assume that buying all cash is self limiting. It's not. I've never had to turn away a deal I thought was good because I was cash poor. See, with all cash purchases, your cash flow is immensely enhanced. 

Gary

Originally posted by @Gary L Wallman :
Originally posted by @Joe Villeneuve:
Originally posted by @Gary L Wallman:

I'm in a different school of thought then Joe V., though I do respect his point.

I view any house purchase as an exchange of assets. Maybe not as liquid as cash but value still intact. In the old days, taking money out of a savings account paying 18% interest was tough. Today's .2%, not so much. As a consequence, having a 15 year mortgage simply defers your cash flow. It does not prevent it. While your bathtub may hurt your cash flow today by 3k, you saved 36k in interest on a 136k mortgage by financing over 15 vs 30 years. A no brainer to me.

I, personally am an all cash investor. It certainly was more difficult deferring property purchases until I could accumulate cash 15 years ago. Now, however, the cash flow on my 135 doors allows me to acquire a paid for property every month or so. Couldn't have done it with 30 year mortgages and 100's of thousands of dollars in interest.

I wanted financial freedom from real estate for my family, not for banks.

Respectfully,

Gary 

 Start with $100k in cash.  If you have two options to buy a $100k property.  One option is all cash, which gets you $10k in cash flow per year, the other is with a 20% DP which gets you only $5k in CF/yr.  

Questions:

1 - Who gets the better CF at the start?,  2 - Who buys more property value?, 3-  Who recovers their cost (cash) faster?, 4-  Who gets faster/higher appreciation?, 5 - Who reaches that retirement goal of no debt with needed income to retire faster?, 6 - How long?

Option 1:  All cash buy
# of Properties:  1
Total Cost: $100k (no loan)
Cost to REI (cash): $100k
Total PV at purchase:  $100k
CF/year:$10k
Yrs to recover cost:  10
Profit from CF during 1st 10 years: $0

Option 2: 20% DP
# of Properties: 5
Total Cost: $750k (DP + debt)
Cost to REI (cash): $100k (tenant is source of loan pmts)
Total PV at Purchase:  $500k
CF/year:$5k * 5 properties = $25k
Yrs to recover cost: 4 years
Profit from CF during 1st 10 years: $25k * 6 yrs = $150k

Now let's say the properties all appreciate at the same rate...a conservative 5%/year. 

Options                Cash             Debt
Start                   $100k            $500k
Year 1                 $105              $525
2                        $110              $551
3                        $115              $578
4                        $121              $608
5                        $127              $638

Let's say every time you reached your desired cash needed to buy the next property, buying the same way you did the first (All cash = $100, debt = $20k), how many properties, and when can you add properties?  This means when the CF reach $100k for the all cash buyer, and when the cf total equals $20k?  It will take the all cash buyer 10 years to buy property number 2.  It will take 1 year for the debt buyer to buy #6 (with cash to spare), then #7 in year 2, then 2 more in year 3 (using the unused CF from previous years), then...  

I'm not looking to buy and hold over 100 properties.  You don't need to.  If you were getting $5k from each property, and your goal was $100k in income per year, that's only 20 properties...unless you started buying bigger properties with bigger CF.

Questions:

1 - Who gets the better CF at the start?,
2 - Who buys more property value?,
3- Who recovers their cost (cash) faster?,
4- Who gets faster/higher appreciation?,
5 - Who reaches that retirement goal of no debt with needed income to retire faster?
6 - How long? 

 Joe,

Your point is well taken and I've seen you restate your position many times over on this forum.

Respectfully, you miss a couple of points that focus on my main concerns. First you assume property will always appreciate. I don't want to be the guy that leveraged a bunch of houses in 2005. Second, interest is a huge expense and it has to come from somewhere. I know you believe the tenant pays it. I don't. Whether it comes out of my pocket first or second, it still comes out.

Third, and most importantly, you assume that buying all cash is self limiting. It's not. I've never had to turn away a deal I thought was good because I was cash poor. See, with all cash purchases, your cash flow is immensely enhanced. 

Gary

 You're missing my points, or misinterpreting them.

1 - I don't assume the property will appreciate.  If you've read my posts you'll see that I focus on CF first, and appreciation second.  The mentions of appreciation in my scenario is there to compare the value of multiple properties appreciating rather than depending on fewer.

2 - Of course the tenant pays to interest.  What's the point of buying a property that cash flows if the tenant doesn't.

3 - All cash buys are self limiting. The only cost to a REI for a property is what comes out of their pocket. You don't make a profit until you recover all of your cost. When you pay all cash, you have to recover all of the cash, in cash, before you break even and start to make a profit. To your point about no guarantee of appreciation, this eliminates appreciation as a potential profit, but you can't count it anyway until you gain access to it...from the sale of the property.

4 - The increase in cash flow from no debt on the property is an illusion.  The down payment is paying for your cash flow.  In the example above, an all cash buy is buying a cash return of $10k/year...prepaying for 10 years of cash flow, so no profits until year 11.  A 20% DP is prepaying for only 4 years of CF, and in years 6 - 10 is profiting $5K/year for a total of $30k...for one property.  Starting with the same $100k, that means 5 properties at $5k/yr each...that's $150k in CF profit at year 10 compared to no profit with an all cash buy.

All of the above, regardless of the option chosen, is a victim to the time it takes to get to break even.  The longer it takes, the more that can go wrong.  Just look at what's happening now, and over the past few years.

When you underwrite, deduct it from cash flow, but appreciation should pay for capex when you look at total equity. This is one main reason to invest in high appreciation areas, you can mess up and appreciation will still keep your investment "good".

Originally posted by @Joe Villeneuve :
Originally posted by @Gary L Wallman:
Originally posted by @Joe Villeneuve:
Originally posted by @Gary L Wallman:

I'm in a different school of thought then Joe V., though I do respect his point.

I view any house purchase as an exchange of assets. Maybe not as liquid as cash but value still intact. In the old days, taking money out of a savings account paying 18% interest was tough. Today's .2%, not so much. As a consequence, having a 15 year mortgage simply defers your cash flow. It does not prevent it. While your bathtub may hurt your cash flow today by 3k, you saved 36k in interest on a 136k mortgage by financing over 15 vs 30 years. A no brainer to me.

I, personally am an all cash investor. It certainly was more difficult deferring property purchases until I could accumulate cash 15 years ago. Now, however, the cash flow on my 135 doors allows me to acquire a paid for property every month or so. Couldn't have done it with 30 year mortgages and 100's of thousands of dollars in interest.

I wanted financial freedom from real estate for my family, not for banks.

Respectfully,

Gary 

 Start with $100k in cash.  If you have two options to buy a $100k property.  One option is all cash, which gets you $10k in cash flow per year, the other is with a 20% DP which gets you only $5k in CF/yr.  

Questions:

1 - Who gets the better CF at the start?,  2 - Who buys more property value?, 3-  Who recovers their cost (cash) faster?, 4-  Who gets faster/higher appreciation?, 5 - Who reaches that retirement goal of no debt with needed income to retire faster?, 6 - How long?

Option 1:  All cash buy
# of Properties:  1
Total Cost: $100k (no loan)
Cost to REI (cash): $100k
Total PV at purchase:  $100k
CF/year:$10k
Yrs to recover cost:  10
Profit from CF during 1st 10 years: $0

Option 2: 20% DP
# of Properties: 5
Total Cost: $750k (DP + debt)
Cost to REI (cash): $100k (tenant is source of loan pmts)
Total PV at Purchase:  $500k
CF/year:$5k * 5 properties = $25k
Yrs to recover cost: 4 years
Profit from CF during 1st 10 years: $25k * 6 yrs = $150k

Now let's say the properties all appreciate at the same rate...a conservative 5%/year. 

Options                Cash             Debt
Start                   $100k            $500k
Year 1                 $105              $525
2                        $110              $551
3                        $115              $578
4                        $121              $608
5                        $127              $638

Let's say every time you reached your desired cash needed to buy the next property, buying the same way you did the first (All cash = $100, debt = $20k), how many properties, and when can you add properties?  This means when the CF reach $100k for the all cash buyer, and when the cf total equals $20k?  It will take the all cash buyer 10 years to buy property number 2.  It will take 1 year for the debt buyer to buy #6 (with cash to spare), then #7 in year 2, then 2 more in year 3 (using the unused CF from previous years), then...  

I'm not looking to buy and hold over 100 properties.  You don't need to.  If you were getting $5k from each property, and your goal was $100k in income per year, that's only 20 properties...unless you started buying bigger properties with bigger CF.

Questions:

1 - Who gets the better CF at the start?,
2 - Who buys more property value?,
3- Who recovers their cost (cash) faster?,
4- Who gets faster/higher appreciation?,
5 - Who reaches that retirement goal of no debt with needed income to retire faster?
6 - How long? 

 Joe,

Your point is well taken and I've seen you restate your position many times over on this forum.

Respectfully, you miss a couple of points that focus on my main concerns. First you assume property will always appreciate. I don't want to be the guy that leveraged a bunch of houses in 2005. Second, interest is a huge expense and it has to come from somewhere. I know you believe the tenant pays it. I don't. Whether it comes out of my pocket first or second, it still comes out.

Third, and most importantly, you assume that buying all cash is self limiting. It's not. I've never had to turn away a deal I thought was good because I was cash poor. See, with all cash purchases, your cash flow is immensely enhanced. 

Gary

 You're missing my points, or misinterpreting them.

1 - I don't assume the property will appreciate.  If you've read my posts you'll see that I focus on CF first, and appreciation second.  The mentions of appreciation in my scenario is there to compare the value of multiple properties appreciating rather than depending on fewer.

2 - Of course the tenant pays to interest.  What's the point of buying a property that cash flows if the tenant doesn't.

3 - All cash buys are self limiting. The only cost to a REI for a property is what comes out of their pocket. You don't make a profit until you recover all of your cost. When you pay all cash, you have to recover all of the cash, in cash, before you break even and start to make a profit. To your point about no guarantee of appreciation, this eliminates appreciation as a potential profit, but you can't count it anyway until you gain access to it...from the sale of the property.

4 - The increase in cash flow from no debt on the property is an illusion.  The down payment is paying for your cash flow.  In the example above, an all cash buy is buying a cash return of $10k/year...prepaying for 10 years of cash flow, so no profits until year 11.  A 20% DP is prepaying for only 4 years of CF, and in years 6 - 10 is profiting $5K/year for a total of $30k...for one property.  Starting with the same $100k, that means 5 properties at $5k/yr each...that's $150k in CF profit at year 10 compared to no profit with an all cash buy.

All of the above, regardless of the option chosen, is a victim to the time it takes to get to break even.  The longer it takes, the more that can go wrong.  Just look at what's happening now, and over the past few years.

 Joe,

All due respect, agree to disagree.

I believe your whole premise of the cash being gone and not receiving a return until you've recouped all your initial cash is a fallacious one.

When I buy Exxon stock and receive a 6 percent dividend, that dividend is profit when I receive it. It's not necessary for me to recoup my initial investment before it's a profit because my investment is still intact.

Also, I cash flow 5x the amount a leveraged buyer would from day one.

Lastly, interest is an expense that comes from cash flow. It has to be paid whether you believe the tenant pays or the landlord. In many instances, over 30 years, that interest exceeds the cost of the home. I would never have been able to accumulate over a hundred properties if I had to pay that interest expense. Likely, no bank would have taken on that much risk either.

This is not to say I don't believe in leverage. If you're young you should borrow to buy some RE investments. My own son has 8 SFR's and has 4 15 year mortgages. If I were 30 years old again, I think I would borrow on 2 for every one I had paid for. In RE time solves a lot of problems.

Gary

Originally posted by @Gary L Wallman :
Originally posted by @Joe Villeneuve:
Originally posted by @Gary L Wallman:
Originally posted by @Joe Villeneuve:
Originally posted by @Gary L Wallman:

I'm in a different school of thought then Joe V., though I do respect his point.

I view any house purchase as an exchange of assets. Maybe not as liquid as cash but value still intact. In the old days, taking money out of a savings account paying 18% interest was tough. Today's .2%, not so much. As a consequence, having a 15 year mortgage simply defers your cash flow. It does not prevent it. While your bathtub may hurt your cash flow today by 3k, you saved 36k in interest on a 136k mortgage by financing over 15 vs 30 years. A no brainer to me.

I, personally am an all cash investor. It certainly was more difficult deferring property purchases until I could accumulate cash 15 years ago. Now, however, the cash flow on my 135 doors allows me to acquire a paid for property every month or so. Couldn't have done it with 30 year mortgages and 100's of thousands of dollars in interest.

I wanted financial freedom from real estate for my family, not for banks.

Respectfully,

Gary 

 Start with $100k in cash.  If you have two options to buy a $100k property.  One option is all cash, which gets you $10k in cash flow per year, the other is with a 20% DP which gets you only $5k in CF/yr.  

Questions:

1 - Who gets the better CF at the start?,  2 - Who buys more property value?, 3-  Who recovers their cost (cash) faster?, 4-  Who gets faster/higher appreciation?, 5 - Who reaches that retirement goal of no debt with needed income to retire faster?, 6 - How long?

Option 1:  All cash buy
# of Properties:  1
Total Cost: $100k (no loan)
Cost to REI (cash): $100k
Total PV at purchase:  $100k
CF/year:$10k
Yrs to recover cost:  10
Profit from CF during 1st 10 years: $0

Option 2: 20% DP
# of Properties: 5
Total Cost: $750k (DP + debt)
Cost to REI (cash): $100k (tenant is source of loan pmts)
Total PV at Purchase:  $500k
CF/year:$5k * 5 properties = $25k
Yrs to recover cost: 4 years
Profit from CF during 1st 10 years: $25k * 6 yrs = $150k

Now let's say the properties all appreciate at the same rate...a conservative 5%/year. 

Options                Cash             Debt
Start                   $100k            $500k
Year 1                 $105              $525
2                        $110              $551
3                        $115              $578
4                        $121              $608
5                        $127              $638

Let's say every time you reached your desired cash needed to buy the next property, buying the same way you did the first (All cash = $100, debt = $20k), how many properties, and when can you add properties?  This means when the CF reach $100k for the all cash buyer, and when the cf total equals $20k?  It will take the all cash buyer 10 years to buy property number 2.  It will take 1 year for the debt buyer to buy #6 (with cash to spare), then #7 in year 2, then 2 more in year 3 (using the unused CF from previous years), then...  

I'm not looking to buy and hold over 100 properties.  You don't need to.  If you were getting $5k from each property, and your goal was $100k in income per year, that's only 20 properties...unless you started buying bigger properties with bigger CF.

Questions:

1 - Who gets the better CF at the start?,
2 - Who buys more property value?,
3- Who recovers their cost (cash) faster?,
4- Who gets faster/higher appreciation?,
5 - Who reaches that retirement goal of no debt with needed income to retire faster?
6 - How long? 

 Joe,

Your point is well taken and I've seen you restate your position many times over on this forum.

Respectfully, you miss a couple of points that focus on my main concerns. First you assume property will always appreciate. I don't want to be the guy that leveraged a bunch of houses in 2005. Second, interest is a huge expense and it has to come from somewhere. I know you believe the tenant pays it. I don't. Whether it comes out of my pocket first or second, it still comes out.

Third, and most importantly, you assume that buying all cash is self limiting. It's not. I've never had to turn away a deal I thought was good because I was cash poor. See, with all cash purchases, your cash flow is immensely enhanced. 

Gary

 You're missing my points, or misinterpreting them.

1 - I don't assume the property will appreciate.  If you've read my posts you'll see that I focus on CF first, and appreciation second.  The mentions of appreciation in my scenario is there to compare the value of multiple properties appreciating rather than depending on fewer.

2 - Of course the tenant pays to interest.  What's the point of buying a property that cash flows if the tenant doesn't.

3 - All cash buys are self limiting. The only cost to a REI for a property is what comes out of their pocket. You don't make a profit until you recover all of your cost. When you pay all cash, you have to recover all of the cash, in cash, before you break even and start to make a profit. To your point about no guarantee of appreciation, this eliminates appreciation as a potential profit, but you can't count it anyway until you gain access to it...from the sale of the property.

4 - The increase in cash flow from no debt on the property is an illusion.  The down payment is paying for your cash flow.  In the example above, an all cash buy is buying a cash return of $10k/year...prepaying for 10 years of cash flow, so no profits until year 11.  A 20% DP is prepaying for only 4 years of CF, and in years 6 - 10 is profiting $5K/year for a total of $30k...for one property.  Starting with the same $100k, that means 5 properties at $5k/yr each...that's $150k in CF profit at year 10 compared to no profit with an all cash buy.

All of the above, regardless of the option chosen, is a victim to the time it takes to get to break even.  The longer it takes, the more that can go wrong.  Just look at what's happening now, and over the past few years.

 Joe,

All due respect, agree to disagree.

I believe your whole premise of the cash being gone and not receiving a return until you've recouped all your initial cash is a fallacious one.

When I buy Exxon stock and receive a 6 percent dividend, that dividend is profit when I receive it. It's not necessary for me to recoup my initial investment before it's a profit because my investment is still intact.

Also, I cash flow 5x the amount a leveraged buyer would from day one.

Lastly, interest is an expense that comes from cash flow. It has to be paid whether you believe the tenant pays or the landlord. In many instances, over 30 years, that interest exceeds the cost of the home. I would never have been able to accumulate over a hundred properties if I had to pay that interest expense. Likely, no bank would have taken on that much risk either.

This is not to say I don't believe in leverage. If you're young you should borrow to buy some RE investments. My own son has 8 SFR's and has 4 15 year mortgages. If I were 30 years old again, I think I would borrow on 2 for every one I had paid for. In RE time solves a lot of problems.

Gary

Not to mention the hassle factor of getting loans and the cost associated with them you can add 5 to 10k for every property for the privilege.  same with the refi route that is still money leaving you and going to a third party.  I guess the same thing can be said for those that pay their credit cards off monthly.. you save interest.. you can pay the interest if you want and horde your cash I suppose but your still losing money.

And just talk to those that have gone out and gotten portfolio loans and all the red tape and covenants associated with those loans that many investors dont understand. 

Not to mention in a down turn and god forbid your having problems debt servicing for any number of reasons not going to get a lot of love from most lenders..  Thats why I stick to small commercial banks for my construction loans.  Much more flexibility if we need to pivot .. I learned this in the GFC big banks were tough small commercial banks would work out structures that were obtainable if U needed it and I needed it big time in those days.  Granted the 30 year fixed or 15 year fix product is far easier to work with than the over bearing portfolio loans and all their Covenants and reporting you have to do on an annual basis. I would never do those personally.

Originally posted by @Jay Hinrichs :
Originally posted by @Gary L Wallman:
Originally posted by @Joe Villeneuve:
Originally posted by @Gary L Wallman:
Originally posted by @Joe Villeneuve:
Originally posted by @Gary L Wallman:

I'm in a different school of thought then Joe V., though I do respect his point.

I view any house purchase as an exchange of assets. Maybe not as liquid as cash but value still intact. In the old days, taking money out of a savings account paying 18% interest was tough. Today's .2%, not so much. As a consequence, having a 15 year mortgage simply defers your cash flow. It does not prevent it. While your bathtub may hurt your cash flow today by 3k, you saved 36k in interest on a 136k mortgage by financing over 15 vs 30 years. A no brainer to me.

I, personally am an all cash investor. It certainly was more difficult deferring property purchases until I could accumulate cash 15 years ago. Now, however, the cash flow on my 135 doors allows me to acquire a paid for property every month or so. Couldn't have done it with 30 year mortgages and 100's of thousands of dollars in interest.

I wanted financial freedom from real estate for my family, not for banks.

Respectfully,

Gary 

 Start with $100k in cash.  If you have two options to buy a $100k property.  One option is all cash, which gets you $10k in cash flow per year, the other is with a 20% DP which gets you only $5k in CF/yr.  

Questions:

1 - Who gets the better CF at the start?,  2 - Who buys more property value?, 3-  Who recovers their cost (cash) faster?, 4-  Who gets faster/higher appreciation?, 5 - Who reaches that retirement goal of no debt with needed income to retire faster?, 6 - How long?

Option 1:  All cash buy
# of Properties:  1
Total Cost: $100k (no loan)
Cost to REI (cash): $100k
Total PV at purchase:  $100k
CF/year:$10k
Yrs to recover cost:  10
Profit from CF during 1st 10 years: $0

Option 2: 20% DP
# of Properties: 5
Total Cost: $750k (DP + debt)
Cost to REI (cash): $100k (tenant is source of loan pmts)
Total PV at Purchase:  $500k
CF/year:$5k * 5 properties = $25k
Yrs to recover cost: 4 years
Profit from CF during 1st 10 years: $25k * 6 yrs = $150k

Now let's say the properties all appreciate at the same rate...a conservative 5%/year. 

Options                Cash             Debt
Start                   $100k            $500k
Year 1                 $105              $525
2                        $110              $551
3                        $115              $578
4                        $121              $608
5                        $127              $638

Let's say every time you reached your desired cash needed to buy the next property, buying the same way you did the first (All cash = $100, debt = $20k), how many properties, and when can you add properties?  This means when the CF reach $100k for the all cash buyer, and when the cf total equals $20k?  It will take the all cash buyer 10 years to buy property number 2.  It will take 1 year for the debt buyer to buy #6 (with cash to spare), then #7 in year 2, then 2 more in year 3 (using the unused CF from previous years), then...  

I'm not looking to buy and hold over 100 properties.  You don't need to.  If you were getting $5k from each property, and your goal was $100k in income per year, that's only 20 properties...unless you started buying bigger properties with bigger CF.

Questions:

1 - Who gets the better CF at the start?,
2 - Who buys more property value?,
3- Who recovers their cost (cash) faster?,
4- Who gets faster/higher appreciation?,
5 - Who reaches that retirement goal of no debt with needed income to retire faster?
6 - How long? 

 Joe,

Your point is well taken and I've seen you restate your position many times over on this forum.

Respectfully, you miss a couple of points that focus on my main concerns. First you assume property will always appreciate. I don't want to be the guy that leveraged a bunch of houses in 2005. Second, interest is a huge expense and it has to come from somewhere. I know you believe the tenant pays it. I don't. Whether it comes out of my pocket first or second, it still comes out.

Third, and most importantly, you assume that buying all cash is self limiting. It's not. I've never had to turn away a deal I thought was good because I was cash poor. See, with all cash purchases, your cash flow is immensely enhanced. 

Gary

 You're missing my points, or misinterpreting them.

1 - I don't assume the property will appreciate.  If you've read my posts you'll see that I focus on CF first, and appreciation second.  The mentions of appreciation in my scenario is there to compare the value of multiple properties appreciating rather than depending on fewer.

2 - Of course the tenant pays to interest.  What's the point of buying a property that cash flows if the tenant doesn't.

3 - All cash buys are self limiting. The only cost to a REI for a property is what comes out of their pocket. You don't make a profit until you recover all of your cost. When you pay all cash, you have to recover all of the cash, in cash, before you break even and start to make a profit. To your point about no guarantee of appreciation, this eliminates appreciation as a potential profit, but you can't count it anyway until you gain access to it...from the sale of the property.

4 - The increase in cash flow from no debt on the property is an illusion.  The down payment is paying for your cash flow.  In the example above, an all cash buy is buying a cash return of $10k/year...prepaying for 10 years of cash flow, so no profits until year 11.  A 20% DP is prepaying for only 4 years of CF, and in years 6 - 10 is profiting $5K/year for a total of $30k...for one property.  Starting with the same $100k, that means 5 properties at $5k/yr each...that's $150k in CF profit at year 10 compared to no profit with an all cash buy.

All of the above, regardless of the option chosen, is a victim to the time it takes to get to break even.  The longer it takes, the more that can go wrong.  Just look at what's happening now, and over the past few years.

 Joe,

All due respect, agree to disagree.

I believe your whole premise of the cash being gone and not receiving a return until you've recouped all your initial cash is a fallacious one.

When I buy Exxon stock and receive a 6 percent dividend, that dividend is profit when I receive it. It's not necessary for me to recoup my initial investment before it's a profit because my investment is still intact.

Also, I cash flow 5x the amount a leveraged buyer would from day one.

Lastly, interest is an expense that comes from cash flow. It has to be paid whether you believe the tenant pays or the landlord. In many instances, over 30 years, that interest exceeds the cost of the home. I would never have been able to accumulate over a hundred properties if I had to pay that interest expense. Likely, no bank would have taken on that much risk either.

This is not to say I don't believe in leverage. If you're young you should borrow to buy some RE investments. My own son has 8 SFR's and has 4 15 year mortgages. If I were 30 years old again, I think I would borrow on 2 for every one I had paid for. In RE time solves a lot of problems.

Gary

Not to mention the hassle factor of getting loans and the cost associated with them you can add 5 to 10k for every property for the privilege.  same with the refi route that is still money leaving you and going to a third party.  I guess the same thing can be said for those that pay their credit cards off monthly.. you save interest.. you can pay the interest if you want and horde your cash I suppose but your still losing money.

And just talk to those that have gone out and gotten portfolio loans and all the red tape and covenants associated with those loans that many investors dont understand. 

Not to mention in a down turn and god forbid your having problems debt servicing for any number of reasons not going to get a lot of love from most lenders..  Thats why I stick to small commercial banks for my construction loans.  Much more flexibility if we need to pivot .. I learned this in the GFC big banks were tough small commercial banks would work out structures that were obtainable if U needed it and I needed it big time in those days.  Granted the 30 year fixed or 15 year fix product is far easier to work with than the over bearing portfolio loans and all their Covenants and reporting you have to do on an annual basis. I would never do those personally.

"You don't make a profit until you recover all of your cost".

Wow, OK....so with these types of properties, 5-10K of debt issuance costs could potentially represent over 10% of closing costs. No thank you. Also, good luck finding a lender that will provide financing for these types of properties. According to the logic above, I haven't made single penny of profit from my real estate ventures. 

There are only three things I know to be certain in life: the sun will rise in the east; there is no justice in the world; @JoeVilleneuve will rebuke you for suggesting paying off your properties early. Everything else is uncertain.

@Bill Ward

This is normal and I’ve been there many times. I bet you’ll have several years with no big problems with this one now. Good luck! Oh, and I’m a fan of 15 year mortgages too. I’m ok with less flow from them now. However, I’m looking forward to managing fewer homes that will be paid off soon vs a lot more leveraged out on 30 year loans. I don’t want RE investing to feel like a job with a ton of highly leveraged out properties on 30 year loans. I’m cool with just 11 that will be paid off sooner than later and much easier to manage.

Sell it and invest in a better CF 

Or refi to 30 or 40 years yes I heard banks will write a 40 year note 

Good luck

Originally posted by @Jay Hinrichs :

I usually take the contrarian view point on max debt..  If one is young / or younger and has decided to make landlording a vocation then to scale fairly quickly max debt is basically mandatory unless your bringing in investors or start with a bunch of cash or have a very nice business that throws of copious amounts of cash or a executive type job that pays 500k or more a year.. 

if your plan is to slowly build a nice small manageable portfolio so that you can retire  then just look at @Bjorn Ahlblad example

retirement age 12 units  ( maybe more dont know) but 70k net a year according to his post with a paid for property . If your building max debt rentals at 100 to 200 a month net ( which unless you can really source undervalue is about where you end up )

how many doors do you need to achieve 70k net ?   U need 35 doors or more  thats a lot to manage thats a TON of debt to carry . etc. 

So while I fully understand the math behind all of the whats better formula you have to look at other aspects.. How hard is it to get to where you want to be when you retire. and I can tell you paid for free and clear property is a VERY nice place to be . Risk wise you cash flow per door is double or triple so you have less work to create this retirement income.. And suppliment that with you SS benefits and or retirement or other investments and there you go..

If your sole goal is to quit your job Like you see so many on BP want to do becuase the dont like their jobs and they feel real estate rentals is how they are going to get there.. Then yes your simply changing jobs and you have to set yourself up for max debt and managing all these doors its not a passive pursuit unless your buying NNN or very nice A class top end rentals etc.. If your like most BP folks going for max return they are landing in that C D sometimes B type tenant and that will be some work on the owners part either managing the manager or self managing..

So whats the long term goal..  me personally its free and clear.

Also keep in mind you have net worth and balance sheet factors for other types of debt  IE sponsor for up and coming syndicators who need a strong balance sheet partner ..  its nice to have a balance sheet with all assets and no debt.. the BANKS LOVE That.

Well said. The "refi till you die" sentiment here totally ignores things like risk, goals, age of the investor, total net worth etc. 

@Dan Heuschele

What you are saying and maybe not realizing is that you have netted a potential profit of 55k over the last 3 years. That is 1500 a month. I discovered a few years ago that cash flow is the tourniquet that keeps you from bleeding out while appreciation builds.

Originally posted by @Brett Hennessy :

@Dan Heuschele

What you are saying and maybe not realizing is that you have netted a potential profit of 55k over the last 3 years. That is 1500 a month. I discovered a few years ago that cash flow is the tourniquet that keeps you from bleeding out while appreciation builds.

OK formally stealing this quote  Love it so true.. its not cash flow is everything and appreciation is icing on the cake or gambling. In markets that don't appreciate historically then i guess.. but for long term wealth you need appreciation over basis to not just equity pay down. So cash flow allows you to hold while you make that appreciation gain.. Anyone who has lived or invested in a market that is subject to better than average appreciation understands this.. Anyone who lives in an area and their 120k home 20 years ago is now worth 140k their focus is solely on cash flow and it should be.. its very market specific.   if there was not appreciation you would not have the 1031 like you see today.  To me its pretty wild how people equate appreciation to gambling. 

I'm late to the game here, but this is one of the reasons that investing in high cashflow, low appreciation markets is dangerous. All people seem to talk abou on BP is cash flow, but when your property doesn't appreciate and you have a major capex issue, it's VERY painful. To the contrary, if you bought a $300k SFH in a nice, growing area that is appreciating regularly at 10%, that $3k capex feels much less detrimental when you have an average of $30k per year in appreciation on top of higher net debt paydown and higher quality tenants and properties.

@Bill Ward

When we buy new rentals, our bare minimum cash flow is $250/month, and we’re really shooting for $300 or more. If it’s less than our minimum, we don’t buy it. Maybe raising your minimum cash flow parameters would help with avoiding problems like this in the future?

While your current cash flow is non-existent, it sounds like your long term objective is reasonable - when the time comes for you to leave your 9-5 job you will own it free and clear and it will provide decent cash flow. Considering that long term objective, I wouldn't get distraught over CapEx...if you have the resources to cover it. To the contrary, if the area is trending positive in rents, I would plow money in now while you have the 9-5 income - take care of the roof, the HVAC, and any other every-20+ year expenses. Our approach is to heavily invest the first year after purchase, then enjoy the tax benefits and years of trouble-free income. It works well for us - but, our cash-flow is substantially higher - you will have to do the planning and have the resources to fund these capital projects out of pocket.

@Dusty Laurin yes, this wasn't an investment property I purchased, it was my old home. And the main problem is that it's on a 15 year loan, currently on year 4. If I refinance to a 30 year now it would cash flow about $400 a month. I'm not expanding to other rentals so I'm looking to maximize cash flow when I retire from my job. Rent increase at the end of this year will help a bit too.