cash flow | revnyou.com

“In the moment of decision, the best thing you can do is the right thing, the next best thing is the wrong thing, and the worst thing you can do is nothing.”– Theodore Roosevelt

I was in Toronto a couple of weeks ago and many of my colleagues in the real estate space were talking about lay offs…those that had happened and those they expected to come. But, despite the gloom, I’m even more convinced that now is the time to start shopping for property. Smart money is entering the real estate market right now. If you’re sitting on the sidelines afraid, or worse, if you’re running in fear, then you’re missing out on some great opportunities.

With values dropping, someone who is out there looking just mind find a deal! Even if property values drop for another year you can can still make money in real estate. Here’s why…

There are three ways to make money in real estate:

* appreciation,
* cash flow, and
* other people’s money paying down your mortgage.
Appreciation is the way that captures an audience. Who doesn’t want to hear about the person that made $200,000 on their house in 3 years? And who doesn’t want to imagine how wonderful it would be to have bought that $200,000 house 3 years ago to be selling it for $400,000 today?

Well those big story days of rapid home value appreciation are behind us now.

And we’re ok with it because we never set out to make money through big property value appreciation. We’ve always focused on a more long term strategy…making money by other people (our renters) paying down our mortgages.We focus on the fundamentals of real estate investing – buying a good property, in an area that attracts a good base of tenants, and renting it out for more money than it costs us to hold that property.

Let’s look at a basic example of just how powerful the fundamentals can be. Pretend you found a desirable property for $100,000 two years ago, and you bought it for 25% down ($25,000). Today, here’s how your investment looks:

1)Depreciation:Bad news, your property went down in value by 5%. It’s now worth $95,000.

2)Cash flow: Rent each month is $1,000. Your mortgage, insurance, taxes and miscellaneous expenses are $800/month. Income minus expenses = $200/month. 24 months x $200 = $4,800 in income so far.

3)Other people’s money paying down your mortgage: Assuming you have a mortgage at a 5% fixed rate and 25 year amortization, at the end of the two years you will owe $71,805 on your $75,000 mortgage. You have now built an additional $3,195 equity into the property ($75,000 – $71,805 = $3,195) using the rent money you collected to pay down the mortgage.

Your property may be worth less than you bought it for, but you’ve still made $7,995 from it in two years (from the positive monthly cash flow and the principal your renters have paid down).Given that you only realize the gains or losses from price changes when you sell or refinance the property, (so the decreased value doesn’t really factor into your returns at this point) you’ve made a 32% return ($7,995 divided by $25,000 invested) on your money after 2 years.And if you hold onto it, and ride the market cycle back up, when you do go to sell you’ll likely enjoy a nice lift in value to add to the other two ways you’ve made money on it.

So, read the media messages about the real estate market crashing if you must. But read them and smile, because you know that you can make money in real estate by going back to the basics and focusing on the fundamentals. And remember, the market won’t always be like this. (If you don’t believe me, just ask Bruce Flatt…).

“In the middle of difficulty lies opportunity“. – Albert Einstein

Published November 17, 2008

Many of Canadian Business Top 100 Wealthiest Canadians made their money through investing or developing real estate. It seems like it was easy for them, so wouldn’t it be easy for anyone? Five years ago, with only a small amount of savings and RRSP’s and a loose plan, we set out to see if we could join the ranks of the rich.

13 properties into our real estate investing adventure, we have learned a lot the hard way. But despite $45,000 in surprise repairs, a property turning into a crack house ,and having a property manager rob rent money from us we are in the real estate market for life. Each year we have averaged returns on our investment of 63% despite some pretty big mistakes.

Of course, increasing property values over the past five years gave us shelter from the storms we created with our mistakes, but even in properties we own that didn’t appreciate much over the past five years, we still made money. That is because in real estate, there are several ways to build wealth.

You can make money through any or all of these ways:

Property appreciation
Cash flow
Other people’s money paying your mortgage.

Let’s look at a basic example of just how powerful each of these can be. Pretend you find a desirable property for $100,000, and you buy it for 25% down ($25,000).

1)Appreciation: Property goes up in value by 5% in year 1. It’s now worth $105,000. Return after one year is 5000/25000 = 20% on your $25,000 investment in the first year!

2)Cash flow: Rent each month is $1000. Your mortgage, insurance, taxes and miscellaneous expenses are $900/month. Income minus expenses = $100/month. 12 months x $100 = $1200/year income.

Add that to the appreciation and you have made 6200/25000 = 25% in the first year through appreciation and cash flow.

3)Other people’s money paying down your mortgage: Assuming you have a mortgage at a 5% fixed rate, at the end of the first year you will owe $73,440 on your $75,000 mortgage. You have now built an additional $1560 equity into the property ($75,000 – $73,440 = $1560).

Your return including appreciation, cash flow and reduced principal give you a first year return of 7760/25000 = 31%.

Of course, finding a property that gives you consistent monthly cashflow is difficult, especially in the heated markets we have seen recently. But, over the long term, you don’t need to have all three of the above to make money from your investments. That is the beautiful thing about real estate, there is more than one way to make money from it.

Real Estate Investing Basics

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