Although I am yet to make my first real estate deal, I have been reading a lot and learning the game and one of the major points of emphasis is a properties ability to cash-flow. I may be mistaken, but I think you can pretty much get any property to cash-flow, correct?
For example - round numbers: Let's say there is a duplex property for sale for $300,000. The rental income is $2,400/month and my expenses are $1,200/month (This includes CapEx, Vacancy, utilities, etc..)
Scenario #1: FHA loan, 3.5% down - Total note is $289,500 with a mortgage payment of $1,380. In this case I have a negative cash flow of ($180)/month. This is a bad deal.
Scenario #2: Conventional Loan, 30% down - Total note is $210,000 with a mortgage payment of $1,000. In this case I have a positive cash flow of $200.
So the same exact property can be made to cash flow just by putting more money down correct? So I think it's not really the ability for the property to cash flow, because you can get pretty much any property to cash flow, but rather a function of how much skin you're willing to have in the game, and more importantly...your cash-on-cash ROI. With a 30% down payment your cash-on-cash ROI is at 2.6% which is clearly less than ideal.
So shouldn't more people be talking about ROI than they should be about a cash-flowing property? Getting $200/unit is nice, but how much money have you had to sacrifice to get that I think is the bigger question.
In scenario 1 you may be double counting taxes and insurance. You should determine the P&I part of the payment and subtract that from the $1200 NOI number. Taxes and insurance have already been included in the 50% you're taking off the top.
Yes, IMHO, cash on cash return is at least as important as the amount of cash flow. That said, you really want both. Its possible to get into a deal with little of your own cash and generate a very high cash on cash number. But it that's only $10 a month, that's a lot of hassle to make $10. OTOH, even if you're making $200 a month, but that's only a 3% cash on cash return, you may have better choices for where to invest the cash and generate a higher return.
$300K is way too much to pay for $2400 in monthly rent. If that's the best deal you can find in the area where you want to invest, don't buy anything there. Either look for a more profitable area or a more profitable investment.
Jon Holdman, Flying Phoenix LLC
You just cleared something up for me as I was analyzing property and adding tax and interest on top of my mortgage. So I had been figuring less cash flow. Thank you!
I was using this blog post by Brandon in which he talks about both cash flow and ROI. He says take half of your monthly rent income and set aside for expenses (I figure tax and insurance as part of this until now). There is also a video that Brandon uploaded and he says he looks more importantly for cash flow than ROI.
Hope this helps. It helped me and so did what Jon said, thanks and good luck.
These are just fictitious numbers and not actually a property I am looking at. Just using round numbers to ask a question. I guess the point I'm trying to make here is that a lot of people talk about getting $200/door when I feel like that is only half the story. I feel like an investment deal has to be a function of both cash flow and cash-on-cash ROI.
I'm wondering if someone has come up with a ratio between cash flow and cash-on-cash ROI that they use to identify a good deal.
For example if I were to get $200 cash flow and 10% ROI that would be a ratio of 20. Or, $100 cash flow and a 15% ROI would be a ratio of 6.6. I'm curious if anyone looks at deals in this manner at all.
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