When Is Cash Flow NOT the Be All End All?

by | BiggerPockets.com

If you’re relatively young or not yet 50, earning more than enough income at work, and living the lifestyle you more or less prefer, cash flow ain’t yer problem. Think about it from a practical viewpoint.

You’re paying taxes, saving money, going on vacations, and educating your kids. You have retirement plans at work, (please stop it) and have some other capital you’d like to invest in real estate. You’ve always been told cash flow is the way to go, so that’s what you set your sights on. That’s also why thousands of couples reach retirement with far less retirement income than was easily within their grasp when they started 15-30 years earlier. How much is far less you ask? If we’re talkin’ about 30 years of chasing cash flow over capital growth it could easily mean a 5-figure reduction in monthly income at retirement. Really.

Here’s the deal

All cash flow is, is a yield on a pile of cash or equity. The bigger the pile, the bigger the cash flow. The idea in the early years is to build the original pile into multiple BIG piles. The yield (interest rate as an example) is gonna be roughly the same for a million dollar pile as it is for the 5 million dollar pile. The difference is the amount of dollars the yield generates. It’s the same X% yield in both scenarios — only the size of the piles of cash are different. The central theme of retirement is for income, especially after tax income, to be as large as possible. To the extent you opt for cash flow over capital growth in the years preceding your actual, you know, need for cash flow, you are purposefully guaranteeing your retirement income will be far less than it easily could’ve been.

Debating this principle is akin to debating gravity.

Editor’s UPDATE 12/22/09: Jeff wanted to explore this topic deeper, and as such, has posted the following: Worshipping At the Altar of Cash Flow – II.

Next — how do you plan for sufficient tax shelter after you’ve successfully arrived at retirement with all that income?

Photo: Vinay Deep

About Author

Jeff Brown

Licensed since 1969, broker/owner since 1977. Extensively trained and experienced in tax deferred exchanges, and long term retirement planning.


    • Amber Porter

      I know what this means for me. I don’t need to live off rental cash flow until I retire. So, I should just do cash out refinances of appreciated homes and use that money to buy more rentals. Then around retirement age, when I need cash flow, I can stop refinancing and start collecting the cash flow from more properties to supplement my retirement income.

      If I do that, there is potential to have $200 per month on 10 homes beginning at retirement, instead of $200 per month on 1 home starting now.

      Something like that.

  1. Still no example concerning cash flow in the other post listed. Cash flow (on one property) over time will always beat any one time profit make from buying and selling of same property. So what are you really saying. Spell it out in the next blog please.

    • Amber Porter

      I posted another comment on this thread with an example. This is really about getting your name on as many titles as you can now and time the cash flow income for retirement age. When I’m young, I need to keep my equity position in each property low and get a hold of more cash (in refinancing) to obtain additional properties. It’s about maximizing use of leverage until you are ready to retire.

  2. I would say your strategy is rock solid, if and only if, your employment is rock solid.

    If not, it is going to be a rough road paying the bills on a profolio of negative or break-even properties, a few vacancies could wipe out all your assets very quickly.

    How would you like to be holding 10 loser properties, in some area in equity free fall?
    It would not be such a problem if they had cash-flow as you could hang on for the rebound.

    I am just conservative, figuring if it doesn’t make money it is not an investment, but speculation.

  3. I thought I followed what was going on here but after reading the comments, I must say, I’m not sure I understand either.

    Could you consider your next blog to be written in terms that a person with a brain of a 6 yr old(that would be) could follow a little easier.

  4. Another way of using positive cash flow is treating cash flow as an asset to yield or create bigger streams of cash. One effective way to do that is to use the power of compound interest .
    Other ways are to invest in bonds and mutual funds that pay a higher yield than your regular savings account. However, one also has to realize the higher the yield, the riskier the investment.

  5. I follow that a capital growth strategy will yield higher returns than a cash flow strategy because the capital growth returns are compounded and you’re not taking money out. But what if instead of spending the cash flow returns, you reinvested them into more properties? Would a capital growth strategy still get you higher returns then? Also, what would be the tax implications?

    Thanks for your time.

  6. Hey Matthew — You’ve put forth the most asked question on this subject. The short answer is, no, buying more solid cash flow props doesn’t work better.

    First of all, the cheap, high cap rate/high cash flow props you’d be buying sport inferior locations. They wouldn’t have such high cap rates and cash flows if we’d put our mothers in them to live alone. The point being that the sellers were forced to make them that (faux) attractive to find a buyer.

    Secondly, when executed correctly, the capital growth strategy annihilates the cash flow approach in the long run. It wins not only in end game cash flow, but in ultimate net worth too. I’d love to talk with you about this.

    • Jeff Brown

      Lisa — I speak on concepts, principles, and strategies. I deal in examples in my practice. You and I both know examples are everywhere. You’ve apparently read the follow-up post, but if not, here’s the link.

      Worshipping At the Altar of Cash Flow – II

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