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I personally never even look at properties that don’t positive cash flow on paper but let’s break down my thought process.
1. Real estate is an illiquid investment, as it usually takes 2+ months on average to sell your house and get money out. You can kinda get around this if you have equity built up and are able to get a heloc, but for a newly purchased investment property, the odds of that are low. Plus, using a Heloc will cut into your cash flow while increasing you debt so, might not be the smartest move. So one of your biggest risks as a real estate investor will always be liquidity. So ask yourself do you have enough cash on hand to pay for your monthly payments and any expected or unexpected repairs.
2. Per the above, is the reason I personally alway look at cash flow as one of the main metrics when evaluating a property. For me there needs to be enough cash flow to cover the monthly expenses, enough to set aside for upcoming expected or unexpected expenses (maintenance & CAPEX), vacancy, and a premium for my time and labor.
3. One of the biggest benefits of real estate is the tax advantages. There are plenty of write offs to reduce your taxable rental income. Unfortunately unless you (or your spouse) qualify as a real estate profesional, you can’t use any losses on your w-2 income. That said in your scenario, you have no rental income to offset. So you will have no short term benefit. You should be able to rollover current losses into the future but you won’t see the benefits of that until you start hitting positive cash flow. So while you might benefit in the long term, in the short term you are getting zero tax advantages.
4. The area where you are hoping to make money is on the appreciation of the house and the tenant paying off your debt. Appreciate is usually a long term gain unless you are making major repairs on the property. On the other side of the coin, due to how amortization tables work, you won’t see significant movement on your principle balance even if your tenant is paying every month. You usually don’t see a big chunk of principle being paid off until around 5-7 years. So basically, again long term benefit but basically no meaningful short term benefit.
Overall, for me this seems like a very risky investment, and an extra expense for you and your partner. That said who knows, maybe this is like a “dream” house in a “dream” area, and you have deep cash reserves that you can tap into i case things go wrong. Hope this helps and feel free to push back if you disagree with anything.
Thank you for the great insights. Great point re: tax advantage of positive cash flow. I will def reconsider my options.
Consider the following additional costs in your calculation.
1% of property value for annual maintenance
1 month rent for vacancy
1 month rent for agency fee
This usually blows up most NCF calculations.
You can do it, and it will likely make you money (with risks), but there are probably better deals other there. Depends on what you want.
Thank you! Will factor those in as well!
Different perspective - I think this depends on your market. I am in a HCOL with historically high levels of price and rent appreciation. Explicitly or not, I think this gets factored into the prices so it is very hard to find properties that will be CF+ at normal leverage off the bat. But (at least historically), if you get in the property, 5+ years later rent is a good bit higher and there is appreciation. Now, as TM1 said, make sure you are factoring in maintenance, repairs, and vacancy in our calcs. But for me, neg $500 a month wouldn't be a killer if I thought the property strategically made sense (but would be careful about it).
I agree with this. I’m in Los Angeles and it’s pretty difficult to buy something that is immediately CF+ unless of course your down payment is aggressive. But if you believe in the appreciation of the home price, floating $500/mo to unlock massive equity upside is a good bet.
Coach
Negative cash flow seems like it would quickly be an issue. Especially given current IR, you might be better off saving for a larger down payment first
Lmao seriously?
Thanks for the great insights! 👍
All depends on if you can carry the costs yourself and if it’s in an area that will see a lot of appreciation. If you can hold and carry that cost for two years and then sell for a massive gain, then sure it’s worth it. You just need an end goal in mind and make sure that at some point it will be worth it.