Cash flow—it’s a term real estate investors eat, sleep, and live for. Maybe it’s used in reference to bigger sums of cash flow, as in flipping, or more often it’s used in terms of the monthly cash flow that a rental property does (or doesn’t) bring in. Either way, cash needs to be flowing in for a real estate investment to be a win.
The first question every investor should ask when they are shopping for an investment rental property is whether or not it will cash flow.
The second question every investor should ask, should they find out a property isn’t expected to cash flow, is if there’s no cash flow, where will my returns come from?
I’m going to offer a couple scenarios where negative cash flow each month on a rental property may still lead to an investing win down the road.
How to Determine Monthly Cash Flow
I suppose it would help to make sure you know how to calculate cash flow in the first place. You need to know the cash flow numbers that you can expect.
The monthly cash flow is determined by the expenses and the income on a rental property. If the income you receive from a property is greater than what you have to pay in expenses for the property, you will pocket cash every month. This is referred to as “positive cash flow.” If the expenses equate to an amount larger than the income you are collecting, however, then you’re going to be in a “negative cash flow” situation.
If you want a simple way of running some basic cash flow equations to help you determine if the outlook of the cash flow is projected to be positive or negative, check out Rental Property Numbers So Easy You Can Calculate Them on a Napkin.
You’ll see in there a discussion of cap rate and cash-on-cash return. You don’t need to focus too heavily on the details of those numbers quite yet, but as you progress, you’ll want to get more savvy on both of them. They should be critical numbers in your analyses. But for now, you’re mainly looking at whether they are positive or negative.
If you are running the numbers on a property and they are showing that you can expect positive monthly cash flow, great! That is desirable. There are other factors at that point that will determine the feasibility of those numbers holding true, but I’ll save those for a later discussion. (If you’re just dying to learn more now and can’t resist, check out 4 Buying Criteria for Rental Property (& How I Determine a Good Deal. Look at the first two criteria I list in there, as they most relate to what is being talked about in this article.)
But what if the number that shows up is telling you that you can expect a negative monthly cash flow on the property, which specifically means you will be paying out of pocket every month on your investment? Is there ever a time that this could still lead to a profitable rental property?
What to Do in Times of Negative Cash Flow
The first thing to know is that most properties will yield negative monthly cash flow. True story! Why is this? Well, that’s just how the world works. Believe it or not, most properties actually make horrible investments. I’ve heard that upwards of 80 percent of properties are bad investments. To be honest, I believe it.
The first consideration you need to look at if you have just calculated negative monthly cash flow is what are my goals and what am I trying to accomplish with an investment? Then how does this negative cash flow situation fit into those?
Obviously, the goal with real estate investing is to make a profit. I really can’t see any other reason why you’d get into investing if your goal isn’t to receive financial gain somehow. So then what do we look at once we’ve discovered we shouldn’t be expecting a profit with monthly cash flow?
There are two scenarios where a negative monthly cash flow may be able to be made up:
- Long-term gain
At first glance, these two may seem like they are the same thing. In some cases, they are. But in the way that I am referring to them, they mean two different things.
Most everyone is familiar with this term and what it means. It’s often the first thing people are taught when it comes to profit with real estate.
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