I have been rethinking my rental property strategy due to the increasing property values in Colorado. I have been talking to many investors and it constantly surprises me how many people sacrifice cash flow for possible future appreciation. In this episode of the InvestFourMore Real Estate Podcast I discuss why cash flow is so important. Why appreciation is nice, but you cannot rely on just appreciation and I talk about my rentals and possible new strategies.
Why should you invest for cash flow and not appreciation?
Investing for cash flow is not easy. There are many markets where it is very tough or impossible to find cash flowing rentals when using financing. Many of the most popular places to live in the United States have the highest prices. When housing prices are high, it is usually tough to cash flow on rentals. Because prices have increased so much in Colorado, I am thinking of investing in other areas with more cash flow.
I could sit tight where I am at and hope prices keep going up, but there is no guarantee housing prices will always rise. Even when housing prices rise, you do not realize any actual gains with appreciation unless you sell your property or refinance it. Selling costs and refinance costs can add up very quickly if you want to take advantage of appreciation. With cash flow you have money coming in every month as long as you own the property. While appreciation looks great on paper, cash flow is much more usable.
What is my plan for my rental properties?
After giving some advice to a couple of my coaching students about selling their rentals, because they have so much equity tied up in their rentals. They aren’t making a lot of money with cash flow, but they have a lot of cash tied up in the properties. I realized I should look at my own properties to see what my current situation looks like. I discovered that I have about 1.3 million dollars of equity in my rentals after selling costs. I am making about $7,500 on my rentals in cash flow (excluding my turn key rental), which is about a 7 percent return on my money.
I am thinking about selling some of my properties here, because prices are so high and reinvesting in another area that has more opportunity for cash flow. In the past I was able to buy homes from $80,000 to $120,000 that needed $10,000 to $15,000 in work and rent those from $1,100 to $1,400. Today, I can buy those same houses for$155,000 to $185,000, put $10,000 in work into them and rent them for $1,400 to $1,600. Those are not great numbers, especially compared to what I used to be able get. I may be investing in new markets with lower prices and better cash flow.
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I am holding a live webinar next week on rental properties. Be sure to join here and if you can’t make the time you can watch the replay.
[00:00:58] MF: Hey everyone, Mark Ferguson with InvestFourMore. Welcome to another real estate investing podcast. Today it’s gonna be just me. I’ve got a pretty interesting topic I wanna talk about, investing in cashflow versus appreciation. So this has come up for me recently for a number of different reasons. I’m really gonna get into why I love cashflow so much. I also love appreciation, but I really invest for cashflow, not appreciation.
I wanna talk about why cashflow is so much more useable; it can help you retire earlier, and why appreciation might not be as great as you think it is. Even though it does wonders for your net worth, it makes you feel good, but is it really as valuable as it may seem to be under the surface? So I wanna go over that. I also wanna talk about some different ideas that I’ve been thinking about as far as my rentals in Colorado, and possibly investing in another state because our prices have just gone crazy where we’re at right now.
So to start off with, I know many of you may have seen I am raising my price of my Complete Blueprint. That happened on February 1st, so hopefully you guys got in there if you’re interested in it. If not, I will occasionally be running sales throughout the year, but that price is not gonna be the same or as low as it was before. It just takes a lot of time for me to help people with the email coaching, doing the conference calls, and I still need time to invest.
But moving on! All right, why is cashflow so great to me and why I think most investors should invest for cashflow? The number one thing about cashflow is it comes in every month. So if you buy a property, rent for $1,400 a month, maybe your payment’s $500 a month, you’ve got some other expenses like vacancies, maintenance, taxes, insurance. Maybe you’re cashflowing 4 or $500, that’s usually about how it works out, depending on what your taxes are where you’re located.
That $500 a month will come in as long as you own that property. Now it might be more some months, less some months, depending on if you have some vacancies, if you have some repairs to do. But the averages say that money will keep coming in as long as you own that house, every single month, every single year. And the really cool thing about rental properties is it will go up over time even.
So with inflation, rent will usually increase. If you’re in a market that’s popular, that has an increasing population, maybe rents will increase besides inflation, will increase even higher like we’ve seen here. And that whole time you are paying off your mortgage by making payments on the house. So it’s not just the cashflow, but you’re slowly paying down your loan.
So if you have a 30 year loan, which I prefer, I much prefer 30 over 15 year loans, which is another topic. But then after 30 years if you hold the property, your loan’s totally paid off, assuming you pay nothing extra into the loan. And now your cashflow has just gone up $500 more a month from what it was before. So over time, rental properties are just a great investment because the mortgage gets paid down, your cashflow slowly increases, and that money just keeps coming in month, after month, after month.
Now I would love it if they appreciate as well, but I don’t think appreciation is quite as great as the cashflow, which I’ll talk about here soon. Another thing I wanna get to before I get the appreciation is retirement. So many people are taught to save your money, “Save, save, save. Invest it in the stock market.” Watch this nest egg build up. And once you get to a certain age you can start eating into it, you can start taking that money out, living off it. Hopefully you calculated how long you will live correctly, you don’t run out of money.
But when you’re buying for appreciation, you’re kind of doing the same thing with rental properties. You’re building up this huge nest egg, you know, bigger, and bigger, and bigger. And then once you get to a certain point, maybe you start selling off your properties and taking money out to live on. And that works, it’s not a horrible strategy. But the great thing about cashflow is, if those properties are making you cashflow every month, so one property making you $500 a month isn’t gonna let you retire.
But you know, I have 16 rental properties right now, around $8,000 a month in cashflow every month, depending on your lifestyle how much you spend, many people would love to retire on $8,000 a month. Now for me I want much more. I have many more, a different idea of life and everything. But $8,000 a month is pretty cool having coming in without doing any work. I mean my properties are managed by someone else, sure I have to keep track of them a little bit, but it’s pretty awesome.
And that will keep coming in as long as I own them and increase over time as my loans get paid off, as rents slowly go up. A number of different factors will make that figure go up, especially if I keep buying properties, which I plan to. And that’s why I love cashflow, it just keeps coming, and coming, and coming. So the appreciation factor is great because your net worth increases and you have this big, you know, amount. Because you say, “Oh hey, look how much my properties went up in value. I’ve got this net worth of $2 million now.”
But if you don’t have any cashflow with that appreciation, what good does that appreciation do you? It’s great to have, it’s better than not having any appreciation. But the only way to access that appreciation is to either sell the properties or refinance them. Now if you don’t have any cashflow — which is possible in certain markets — and you refinance a property to take money out of it, you have even less cashflow. You’re gonna be losing money every month and putting money back into the property.
If you sell the house then you’re most likely going to have to pay a capital gains taxes and repay any depreciation you captured while you owned those properties. It can be a pretty hefty tax bill. And once you sell the property, you’re done with it. It’s not gonna make you any more money, you’ve got a lump sum that you made off the appreciation. But I mean was it really that great of an investment after you consider the taxes you pay, you have to pay a real estate agent to sell it for you, you’re gonna have to pay closing costs, closing fees.
Usually if you’re not an agent you’re going to be paying up to 10% of the selling price of the house in cost to sell the house. Capital gains will be 15 or 20%, who knows what it will be in the future? It’s constantly changing. And then your depreciation that you wrote off over the years, you’ll have to pay that back as well. So the advantages of appreciation really aren’t that great to me once you look at the long term, “How do you get that money out? How do you cash in with that appreciation?”
And if you’re in an area that doubles in price every five years, awesome. You’ll probably be in great shape. But I don’t think you can count on that over the years. Who knows what prices will do, how fast they’ll go up, if they’ll go down? There’s just no guarantees, just like the stock market. So I’m gonna tell you a little bit about my situation now, where I’m at with my rental properties and why this had become kind of a big question for me right now on “what do I do next in my rental property investing career?”
Like I said, I have 16 rental properties, one of them is a turnkey rental property in Cleveland that I bought with my IRA. So I’m not really considering that property in this decision cause I’ve got that there, it’s in my IRA, I’m not planning to sell it. But the other 15 rentals are in Colorado. I bought my first rental property in December of 2010. I bought one that year, bought a couple the next year, kept upping the amount I bought. I bought five last year in 2015.
So all my rental properties are Northern Colorado within about 10 miles of me, except for the Cleveland one. And our market in Colorado had gone bonkers. I mean it is crazy! The median price in Greeley where I’m at is now over $240,000. When I started buying my properties in 2010, the very end of 2010, the median price was around $120,000. So our prices have doubled in five years or so. It’s crazy and it makes my net worth look awesome! It makes me look like a genius for buying all these properties.
But at the same time, my cashflow has not increased as much as the appreciation’s increased. My rents have gone up, I am making more money on my rents compared to when I first bought most of the properties, but they have not doubled. There’s no way they’ve doubled, they’ve maybe gone up 20% I would say, in those five years. Maybe 30% on some houses? But not nearly as much as the prices have gone up.
So while it’s really nice to look at my equity in my houses, how much money I’ve got in them, I’m thinking to myself, “Am I making the best use of that money? Or could I be doing something better with it to create more cashflow?” So I’ll go through the number here. I have about $8,000 a month in cashflow coming in, somewhere around there. If you take out the Cleveland turnkey it’s probably around $7,500 or so.
I have about $1.4 million in equity in my houses, excluding Cleveland. So that means after I take what my houses are worth, minus the loans on them, I’ve got about $1.47 million in equity, which is really cool. I think if I look back I spent about $350,000 in cash buying those properties, now I actually spent more than that total, but I’ve refinanced four properties over the years, so I’ve gotten a lot of that cash back. So total I’ve spent about $350,000 and that ended up creating $1.47 million in equity, which is awesome, I love it!
I figure conservatively, if I wanted to sell my properties, I could take out about $1.3 million after selling costs after making a few repairs here and there to sell my properties if they aren’t perfect when the tenants come out. So I have basically $1.3 million in these properties, if I wanted to cash out, to use for something else. And people, I’ve been talking to a lot of different investors, a lot of people across my site, the Internet.
And people were like, “You’re crazy for even thinking about taking that money out. Look how awesome your investments have done. Look how much money you’ve created. You’re in Colorado with a great market, things are just gonna keep going up and up and up. Hold onto these properties, don’t do anything with them. You’re gonna kill the golden goose,” as one person said.
But here is what bothers me the most is I have the $1.3 million, but if I look at $7,500 in cashflow coming in, that’s about a 7% return on my money. And I’m used to getting 15% percent or more on cash on cash return when I invest in these properties. And that’s just the cashflow coming in. So 7% return when I look at how much equity I have into it, I’m like, “Wait a second, that’s not quite as good a return as I’m used to getting. Am I missing an opportunity here?”
So it’s kind of a question that popped up, “Should I sell some of these properties, maybe reinvest the money into other properties and build up my portfolio even faster, get even more cashflow, and get closer to my goal to buy 100 properties faster?” And so more people are telling me, “You’re crazy for thinking that, just hold onto them. If you wanna buy more properties, use the income you have, money you’ve saved,” which I will do as well.
But here’s my reasoning: one reason I’ve been able to turn that $350,000 into $1.3 million or whatever it is, is because of the way I buy properties. So I talk a lot about this on my blog, I talk a lot about it on my podcast, my YouTube videos. When I buy properties, I buy them below market value. So that means I want a really, really good deal. If I see a house that’s gonna be worth $150,000 after it’s fixed up, I don’t wanna pay $140,000 and put $10,000 of work into it. That’s a waste of my time, it’s not worth it.
I wanna buy a the house for $100,000 and put $10,000 of work into it and then have it worth $150,000. Cause when I do that, I walk into $30,000 of instant equity, and that’s how I’ve been able to build up my net worth so high and these properties are worth so much, because I started out with such a huge advantage and then of course the appreciation helped as well. But it wasn’t just appreciation that got me these big gains.
Now buying below market value is not easy, it’s not something you can just hop on the MLS one day and pick up six properties like that. It takes patience, it takes hard work, and I talked a lot about that in the blog and in my articles as well. But it’s the key to my investing, and when I have these 15 properties, they’re sitting here bringing in money every month, which is great. I love it.
But I look at all this equity and I’m thinking, “I could be using that money to buy more properties below market value and just kind of supercharge my entire investing strategy and get to where I wanna be a lot faster.” So here’s an example of what it might look like if I were to sell one of my properties and reinvest it somewhere else. I’m gonna talk about where I would invest it here in a second too because that’s another very tough question for me to answer.
So I have one property that I’ve owned since 2012, that was rental property number five I believe. Or was it? Yep, number five. I bought it for $88,000, put about $15,000 of work into it. I figured it was worth $140,000, maybe $130,000 at the time I bought it. Now it’s probably worth $190,000. So I have about $108,000 of equity in that house, after selling costs.
And I also have a tenant in there who just drives me crazy, he’s always behind on his rent. He catches up and pays all his late fees, but he’s always behind and yeah. And I know other people manage my properties but they still tell me about this tenant who I had a deal with when I was managing him too, and he’s still being, you know, very trying. So I’ve got $108,000 in this property, so how could I use that money to build up my portfolio faster, bigger, stronger?
The strategy would be, get the tenant out, fix up the home, make it super nice. I don’t think it needs too much work, we fixed it up before we rented it. Put it on the market, and use a 1031 exchange to buy another property with it. So a 1031 exchange is, IRS tax code says you can sell an investment like rental properties for a like investment, like rentals properties. Or there’s many other things you can sell or buy with a 1031 exchange.
And if you do it according to their rules there’s many timelines/guidelines you have to adhere by, but you sell the one property, you identify a new property within, I think, 25 days, buy that property. If you take all the cash you have when the property sold, reinvest it into the new property and abide by all the rules for the 1031 exchange, you don’t pay any capital gains tax, you don’t pay any recapture with the depreciation when you do the exchange.
So basically you can take one property and switch it out for a new property and not pay any taxes on the profit you made on the old property. It’s a really cool technique to use if you can pull it off. So what I would do, take that $108,000, buy another property with that $108,000 cash. Maybe put 5 of $10,000 or my own cash into it so that I’m pay like $115,000 for the house. Do the same thing, put 10, $15,000 of work into it. Hopefully the property’s worth at least $150,000, maybe more.
So I’ve got this house in cash that I’ve bought using the old rental property I sold, probably makes 4, $500 cashflow, which my old one did too. So it’s like, look at it on the surface it’s not big of an improvement, except I have bought the property in cash. I don’t have a loan against it. And what I could then do is refinance the property.
So I can refinance the property, take out probably 75% of the value or purchase price, depending on what kind of bank I can find, what kind of deal I can find. Then all of a sudden, if I could find a bank who won’t have a seasoning period, I could take out like 100, $110,000 from that property with the refinance. All of a sudden I’ve got this cash flowing property, and actually take a step back here.
I forgot to mention, I said the same cash flow with the new property as the old property. But that would be with the loan in place. So when I had bought it for cash, it would have much more cashflow because I wouldn’t have a loan in place. So the cashflow would probably be like $900 maybe $1,000 without the loan. So it would have more cashflow than the original property.
But once I refinanced it, I could use that $100,000/$110,000, whatever it is to buy three more properties doing a 20% downpayment, making repairs like I have in the past. All of them bought below market value, all of them cashflow 4-$500 a month. Now what I’ve essentially done is taken one property that has $108,000 in equity in it now, exchanged that for another like property, refinanced that property and be able to buy three more properties.
So I have exchanged one property for four properties. The first property I sold was cash flowing about $500, we’ll say. The four new properties I’m buying would cashflow from $1,500 to $2,000 a month. So I’ve increased my cashflow $1,500 month, I’ve bought all four properties below market value. So to make numbers easy, I bought them for $20,000 less after repairs and purchase price than they’re worth. That’s conservative, I’ve usually got a little bigger chunk of money when I buy my properties.
So I’ve gained $80,000 in equity, and I’ve gained $1,500 in cashflow or so, plus I have four new properties that an all be depreciated off a much higher cost basis than my original one property. So I’ve essentially traded one property for four properties, put maybe I dunno? 10 to 15, maybe $20,000 of my own cash into this deal and gained a ton of cashflow, gained a ton of equity. And instead of having one rental, I have four rental properties.
So when I think about it that way, when I explain that to people, maybe they don’t think I’m quite so crazy for thinking about selling my properties. Now I’m not saying I’m gonna sell them all at once, it takes, you know there’s a lot that goes into a 1031 exchange, there’s a lot that goes into selling a property, and there’s also a lot that goes into buying new properties below market value. You can’t just walk out into the street and pick them up one after another.
So the other big question I’ve been thinking about and considering is with prices so high here in Colorado, I can’t get the kind of deals I could get before. I mean if I look at my market, I’m lucky to find any decent house under $200,000. Even houses that need work, I mean the best deal I have seen in the last four months was probably a house that was for sale for $155,000, needed 10 or $15,000 in work. And once I was done with it, maybe it would rent for $1,500, maybe. I mean that’s pushing it.
So I am way below the 1% rule. Maybe the house is worth $200,000 when it’s fixed up? So there’s definitely equity there. But at the same time, what good does that equity do me if I’m not making any money on the cashflow? I don’t think it does me that good unless I eventually sell the property, refinance in the future. Which again, is not that big of an advantage as it may seem to be on the surface.
So if I were to use this strategy here, selling some of my properties and reinvesting the money to new properties, it probably wouldn’t make sense to do it. There would not be that big of an advantage because the new properties I would be buying don’t have the cashflow, they would be much more expensive as far as initial purchase price goes, plus you’re adding in repairs.
So I’d have to bring much more cash to the table of my own cash to complete the deal. Or get financing as well as using the proceeds from 1031 exchange. Or I would have to sell two of my properties at once and use all of those proceeds to go into one property. It would just get very tricky. It’s much easier to kind of sell the properties I have now and use the proceeds that I have to buy a similar priced house as the proceeds coming out of it. If that makes sense?
I know there’s a lot of members in this episode but I like numbers so hopefully you’re sticking with me. So my strategy, which I’ve been talking about on Facebook, on some of the forums, on the blog a little bit, would be to possibly invest in a new market. Colorado appreciation is crazy, rents are not keeping up with the appreciation, it’s really hard to cashflow well.
So the solution I’ve been thinking about is to invest in another market. Florida’s caught my eye, there’s a number of other markets across the country that have great cashflow, still plenty of properties that I can buy below market value and they have upside as well. I don’t think they’re just gonna be stagnant with no appreciation, no upside over the next few years.
Now originally I was thinking, “Hey, any new properties I’ll buy in Florida or wherever it is, using the money I’ve saved, money from my flips, money from my real estate team. And I just stick to my portfolio here, leave it sitting here without changing.” But then after looking at the numbers, thinking how much money I had in these houses here, that’s when I thought, “Hey, what if I sell some of these, reinvest them into other areas of the country, and really increase my portfolio, my cashflow.”
I mean it would change my whole business structure and probably get me to my goal to buy 100 properties much, much quicker. So there are properties in the areas that I’ve looked at that need that purchase for $100,000, purchase for $80,000. And then be rented for $1,200, $1,400 month. Make repairs to them, your equity is there. You’ve got that build in $20,000/$30,000 of equity as soon as you purchase the house.
So I think I am definitely going to pursue this new strategy in 2016. I’m not sure exactly how it’s gonna play out. I don’t know where I’m going to invest. I would love to be in markets that have increasing population, increasing job growth, great economies, but at the same time their prices haven’t gone as crazy as Colorado’s, as crazy as California’s, as crazy as some of these other areas across the country that are seeing these big appreciation numbers.
So my plan for right now, I’ve been reaching out to a lot of people across the country, asking people on the blog, asking people all over where they’re investing, what kind of numbers they have, what they’re looking at? So hey, if anybody out there has suggestions for me, wants to shoot me some numbers, some ideas of where they’re investing, I’d love to hear it. You can always email me, [email protected] Love to hear from you guys.
And then also, I’m doing a lot of research myself, talking to agents, so I talk a lot in my coaching programs, a lot in my blog about how to learn markets, about how to buy below market value, about how to find lenders, about how to find contractors, how to find agents. And I have done all that myself in my own market for many years.
And if I do this, if I got out on this new venture investing in different markets, investing in different properties, I’m gonna have to do all that myself too. So I will definitely be putting all my strategies to work that I teach other people. I’ll have to go out, I’ll have to find great agents, I’ll have to find great property managers, I’ll have to find great contractors, I’ll have to be able to find great deals in other markets, and I will be doing it from out of state.
So I’m not gonna be moving to a new market, I’m staying in Colorado. But I’ll definitely be visiting a few areas and then I’ll be getting my team set up as well as I can when I visit there. And then once I get my team set up, come back to Colorado, do as best as I can buying below market value from here using agents, using people on the ground where I’m investing. And trying to find lender of course because my portfolio lender does not lend in any other state. I would have to find a new lender or possibly use one of the national lenders who I’ve talked about, interviewed on my podcast.
So we’ll see. We’ll see how it works. I know it’s possible. I know there’s a lot of people doing it who are very successful like Anil Walia who was on — I forget which podcast it was, but a few podcasts ago. He’s investing from Canada as a foreigner buying in Florida, doing it all from abroad. He’s not spending a ton of time there, he lives in Canada, he’s buying properties from Canada, financing with a local lender in Florida.
So I know it can be done. It’s just a matter of getting started, researching as much as I can, meeting people, talking to people, deciding on a location, visiting that location, checking out properties, checking out neighborhoods, making sure I’m comfortable, really you have to have some people you trust when you’re investing out of state because from what I’ve heard there’s many different intricacies investing in Florida and some other areas where it’s not just one town that’s gonna have a better rental location than another town.
It’s one street, it’s houses across the street from each other will be completely different. So there’s a lot of different things to consider, there’s flood insurance, there’s hurricane insurance, economies, there’s a lot that goes into it. But at the same time I’m excited, it’s something different and fun, and going to visit Florida or other parts of the country where maybe I’ve never been before will be exciting and fun.
Meeting people’s always fun, so I’m excited. I think I’m definitely going to pursue buying in other markets, definitely going to try to narrow down some locations here pretty quickly. And then the question of whether I sell my properties in order to really boost my investing by more and more properties is something I really need to consider here in the next month or so, maybe even less than that.
Because I think there’s definitely opportunity there to really boost my portfolio, increase my cashflow, and just jumpstart things like crazy. You know I talked about one house going from $500 in cashflow to $1,500-$2,000 in cashflow, and that’s just one house. So if I were to take, I kind of identified seven properties in my portfolio that either are a little weird in their floor plan or something, or maybe the location’s not perfect. They’re ones that I’m not super attached to.
If I sold those seven properties, I mean I could probably match the cashflow I have now in my portfolio with just those seven properties. And that’s pretty exciting cause it took me four or five years to get there, I could probably double my cashflow in one year using this strategy. It might be tough to do it in one year, but I bet I could do it. And not to mention, turning those seven properties into 20 or 25 new properties, all of them bought with say $20,000 in equity.
I mean that’s almost half a million dollars in gain right there that I would not have if I just kept my properties sitting the same where they are. So obviously it’s an aggressive strategy, it could come back to bite me, who knows? Or it could pay off awesome, who knows? I think if you stick with your strategy of buying below market value, if I’m able to 1031 exchange them and avoid paying taxes, it would be pretty hard to lose money by doing this.
I mean even if markets go down and decrease over time, I think it would be hard to lose money. I mean worst case scenario I figure I would break even. But I mean I think it would be really, really have to be a bad situation for that to happen to. So we’ll see where it goes. We’ll see what happens. Pretty exciting. It’s always fun to go out in new ventures, try new things, come up with new strategies. And yeah, we’ll see what happens.
That’s all I’ve got for this episode, thank you guys so much for listening. Appreciate it. As always, please leave me feedback, either comment on the blog, send me an email. Always appreciate you guys leaving reviews on iTunes, I love seeing those.
Alright, everybody have a great week and that’s all I’ve got from snowy Colorado.