Since the beginning of the Great Recession, there has been a debate on cash flow between real estate investors, many of whom learned some tough lessons when the Recession began (including myself). Specifically, the debate is: What kind of deals should you focus on and how is your money best used!? Should you focus on creating equity or focus on creating solid income and cash flow?
You may be saying that they don’t have to be mutually exclusive. While that is correct, many investors tend to focus on either building equity OR cash flow. To me, the decision of what kind of deals to focus on is made easy if you boil it down to one thing- how much money do you need right now to live the lifestyle that you are already living (provided it’s already a decent standard of living) and do you already have enough cash flow to live off of on a monthly basis? If you do not have enough to live off of, do NOT focus your efforts too heavily on equity build up. Instead, focus on cash flow (quick flips, wholesaling, and only rentals that will generate strong cash flow); investments that will put cash in your pockets within 1-9 months.
One of my mentors when I got into real estate investing nearly a decade ago, Del Hinds, who headed the SCREIA, made a point of continually telling me not to focus too much on gaining long-term equity, until I had enough to live on today. His famous words still haunt me- YOU CAN’T EAT EQUITY! I also had another mentor that swore to me, you better have a sure fire exit plan and back up strategy if it doesn’t work. I will explain that more in a minute, but for now, let’s talk about Del’s words. At the time, I thought that he just had a different approach to investing, but he was 100% correct. Although I’d built up a significant pile of equity in properties, that was slowly being squeezed out each month when the Recession hit and since I didn’t focus on strong cash flow from the beginning, the $100 to $150 I was making per property on gross rents (before expenses) barely covered basic maintenance and vacancies, meaning my true profit per month on rentals was close to zero.
This serves as a warning. If the economy goes into another recession (which is certainly possible given the lack of fundamental improvement in the economy and massive spending by our government) and you do not have more than enough cash flow to live on already and are focusing too heavily on equity, change your focus… FAST. Focus on wholesaling, rehabbing, and flipping properties, or if you do buy rental properties, ensure that you have at least 30 to 35% cash flow after PITI payments plus a 10% allowance for vacancies and a 10% allowance for repairs (I actually look for 50% net cash flow now). Just because there are enough properties with potential equity that we can buy all day long right now, don’t buy too many properties too quickly if the strong cash flow isn’t there, and if you’re choosing not to re-sell them right away. Your equity may get squeezed out and you may be stuck with a property that you can’t sell for what you thought, and then you’re holding onto properties that aren’t cash flowing well enough to make it worth your time. You’re one of the smart ones though; you know to focus on cash flow, and thus, you will be a successful investor.