There is no doubt that the main reason so many people invest in real estate is due to the fact that it is one of the best ways to earn profits and make money. In real estate investing, profit comes from in two ways: positive cash flow and appreciation. But which one is more desirable for real estate investors? Before we answer this question, let’s first take a look at what positive cash flow and appreciation mean in real estate investing.
Positive Cash Flow vs. Appreciation
What Is Positive Cash Flow?
In real estate investing, cash flow is the profit made each month from a rental property. In simple words, this is how cash flow works: real estate investors collect rent from tenants renting the investment property on a monthly basis, after which expenses like mortgage payment, property management fee, HOA fees, insurance, property taxes, maintenance, and all other costs associated with the rental property are subtracted from the rent. The final sum of the money left represents cash flow (also known as net income). When a final result is a positive number, then you have positive cash flow!
What Is Real Estate Appreciation?
In real estate investing, appreciation is the increase in the value of the rental property over time. For example, you might buy a real estate investment property for $100,000 and sell it for $200,000 a few years later! The rental property appreciates for various reasons, like when mortgage interest rates go down, demand for real estate increases, or there’s a lack of real estate supply.
Many real estate investors look for rental properties to buy and hold, hoping their value would have increased by the time they sell them. Many even decide to buy a rental property that doesn’t provide cash flow (or even loses money) thinking it could be profitable after a period of time.
Now that we’ve defined these concepts, it’s time to explain why it’s best for real estate investors to invest in real estate for positive cash flow rather than for real estate appreciation.
Positive Cash Flow Generates a Passive Income and Higher Returns
Real estate investors should look for a rental property that is reaping positive cash flow returns, or, in other words, invest in positive cash flow investment properties simply because the higher the net income, the better the rate of return on investment. Even when the real estate market is going down, the investment property investor would still be able to make money through rental income until the economy recovers. Also, positive cash flow tends to increase with time as a property investor owns the investment properties, allowing the investor to make even more money with each passing year.
Some would argue saying positive cash flow is a rather foolish way to make a profit since you only receive a few hundred dollars every month – compared to what you make out of real estate appreciation. This is a reasonable argument; however, have you heard the saying “A dollar today is worth more than a dollar tomorrow”? This means cash in hand now is far more valuable than any cash earned in the future. We say this because you can reinvest the cash you have now from rental income, and it’ll immediately start working for you.
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Positive Cash Flow Pays Down Your Mortgage
In real estate investing for positive cash flow, the rent pays down your added expenses including mortgage payment! For example, if you’re earning a positive cash flow of $2,000 per month, and your added expenses sum up to $1,200, this means you’re able of paying all these expenses and make a profit of $800 every month. When a mortgage is being paid down every month, the investment property’s equity increases, and the investment property investor becomes more financially stable.
Positive Cash Flow Allows You to Invest in Multiple Investment Properties
As previously mentioned, cash in hand right now is more valuable than cash earned in the future because real estate investors can reinvest that cash. This leads to the next reason for investing in positive cash flow which is: A property investor can save the extra income for another down payment for an additional investment property.
Thus, real estate investing for positive cash flow is the best option for growing and diversifying your real estate investment portfolio, which is a key to making more money and building wealth in real estate. Not to mention that as real estate investors own multiple investment properties, average expenses tend to decrease.
Positive Cash Flow Is Less Risky
Investing for real estate appreciation can be exciting for a property investor, but in the end, it’s a bit of a gamble. Real estate appreciation can’t be accurately predicted as there are simply too many factors that play a role in determining housing market trends. The housing market might not grow as expected, meaning the investment property’s value won’t increase very rapidly, don’t increase at all, or even decrease. In addition, appreciation on a large scale can take 10-30 years! When this happens, the property investor is stuck with investment properties that are costing money instead of making money, which is not only a bad investment decision but can even lead to bankruptcy.
Investing primarily for positive cash flow, on the other hand, is far less risky. Positive cash flow is more predictable since it’s based on simple math and is built on more solid fundamentals. Sure, investing for positive cash flow gives you return in smaller sums, but at least you’ll still be generating rental income on a regular basis over a longer period of time.
The only downside is that finding properties to produce positive cash flow from the moment you buy them is hard. Real estate investors have to do a great amount of searching for the right location and conduct real estate market analysis as well as investment property analysis.
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Investing for Positive Cash Flow – Conclusion
The answer to the question of whether you should invest for positive cash flow or real estate appreciation really depends on your investment and financial goals. On the one hand, investing for positive cash flow may only bring in a few hundred dollars each month, but those returns will add up over time. On the other hand, investing for real estate appreciation can reap a big return once the property has appreciated, but there is the element of uncertainty when it comes to this approach.
Of course, you might ask: “Why not go after both positive cash flow and appreciation?” While that’s a reasonable goal, unfortunately, it’s not an easy thing to do. The truth is, in many parts of the country where appreciation is high, it’s very hard to find rental properties that generate positive cash flow. The best solution would probably be to invest for cash flow while aiming for appreciation. This allows you to earn a steady passive income and work on successfully building long-term wealth.
Whatever you choose, Mashvisor can help you find the best property for your real estate investment portfolio. Head over to our blogs section to learn more about anything real estate, and sign up to receive guides and tips for a successful career as a property investor.