What’s The Big Deal About Cashflow?
Investors LOVE to say the almighty word: CASHFLOW! One of the first questions on many investors’ minds when considering an investment: Does it cashflow? It’s like the magic ruler as to whether or not a property is worth buying. It is true that cashflow can be a great indicator as to how a property is capable of performing, but ONLY looking at cashflow can lead you into an investment that isn’t that great or keep you from investing in a property that could be great but you miss the other indications. The importance that people put on cashflow is quite logical.
Why do we have jobs? Cashflow! How do we offset our monthly bills that we have to pay? Cashflow! How can we have more expendable income every month to do what we like to do? MORE cashflow! But cashflow isn’t always the best thing for your investments! Don’t get me wrong, it’s almost never a BAD thing to have cashflow, but that doesn’t mean it’s the BEST thing to have cashflow.
Let’s discuss how one even obtains cashflow. Plain and simple, your monthly income from an investment has to exceed the monthly expenses from that investment, that’s how you get cashflow. (Note: different people include or exclude certain expenses such as incidental maintenance costs for the purpose of calculating cashflow, but that’s really irrelevant for this article.) The funny thing is that almost ANY property can cashflow. I’ll give you an extreme fictional example to illustrate the point. I have one million dollars sitting around that I want to invest. I think, “man, it sure would be nice to have some monthly cashflow from my investment!” I go to a lower-class neighborhood and find a nice duplex being sold for $100,000. I want to make an offer and am told that it’s a multiple offer situation.
I REALLY want the place and don’t want to be beat out by other bidders, so I offer $1,000,000 for the property. Sure enough, the seller accepts! I pay cash for the property and now own it free and clear! I only have to pay taxes, insurance, and some maintenance costs–let’s say they add up to $500 per month. I rent out the units for a combined total of $1,000 per month. As you can see, I can now go brag to all my investor pals that I cashflow $500 every month on this great investment property I just bought. This is a ridiculous example, as most people can clearly see that this would NOT be the best use of $1,000,000 cash. But remember, what do many investors ask as their first inquiry? “Does it cashflow?” Even in this extreme example I could look at them straight in the eyes and respond with an honest “YES!”
The point you should get from that example is that asking if a property does/can/will cashflow is really irrelevant unless you put it in perspective with the situation as a whole, what your personal goals are, and what is truly the best bang for your investment buck. Let’s say, as a more realistic scenario, that you have $100,000 to invest (the quantity doesn’t really matter, the principles are what matter). You decide to use the money to make 10% down payments on five $200,000 properties. After doing so and renting out the properties, you break even on every single property, NO CASHFLOW!
Some months you even have to chip in a few hundred dollars to pay for some expenses. Depending on your personal situation, this may have been an excellent decision for tax purposes alone; positive cashflow is taxed as income, break-even numbers are not! If you had just purchased one $100,000 property free and clear instead of dividing it for multiple down payments, sure, you would have positive cashflow every month, but you’d pay taxes on it, too! Now figure the appreciate benefits of owning these five properties.
Let’s figure you gain a modest 4% annual appreciation (well below the historic average). After just ONE year of holding the properties and “just breaking even”, you will have gained $40,000 in equity alone by doing nothing but holding them for a year and earning a very modest appreciation. If you had bought just one $100,000 property free and clear so you could have the monthly cashflow, you will not even come close to gaining that much! Plus, the tax benefits and appreciation mentioned are just a few of the many factors that make controlling multiple properties with less of your own money a better investment.
And again, I am in no way saying the cashflow is a bad thing, after all, it’s income from the properties that allow us to have them to begin with. But do yourself a favor and discuss with a professional familiar with investment properties whether or not monthly cashflow is truly the best thing to be seeking in your particular situation. Depending on your age, preferences, and investment strategy, maybe cashflow is good, maybe it’s not!
