Building wealth is not an easy concept for most people to grasp. You’ve probably heard a lot and read plenty about investing, but a lot of it sounds like it is out of reach. Like most people, you likely also feel like you have to have money to make money.
While the unfortunate cycle is true, it’s also something that can be broken by following different investing strategies. When it comes to real estate, generating a positive cash flow can be exceptionally difficult, so we’re going to try to simplify the things that you’ll need to do to get started.
Defining Positive Cash Flow
Positive cash flow is more than just generating profits. In business, you need to have money to pay employees, buy new assets, and cover associated costs. That money comes from money that had been invested into your venture or money that has come in via sales or other receivables.
Cash flow refers to the amount of money going into and out of your business to keep it running. A positive cash flow means that your business is bringing in more money than you’re putting out. A negative cash flow is where your business is making less money than you need to cover your base operating expenses.
Profitability is something that is typically measured at the end of a fiscal year. It is the leftover funds that remain after every single expense has been paid. If there are funds left after breaking even, then you turned a profit. If you’re short on funds for the year, then you’ve experienced losses.
Why Positive Cash Flow Is Important
When it comes to real estate, positive cash flow is critical to keep the real estate business moving. There is a constant influx of money as well as an outflow as people buy and sell all the time. It’s one business that seems to have a steady movement which is why people are tempted to invest in real estate.
Creating a positive cash flow is different from your household income. It seems a little counterintuitive, but you have to look at them as two different things. One is all about the money that you have to live off of, and the other is all about your business.
As housing needs change over time, you may also experience negative cash flow from time to time. When you have positive cash flow most of the time, it's assurance that you can make it through the bad times without worrying about meeting obligations.
Understanding Household Income
The gap continues to grow and become more significant between the levels of income a person is liable to make. It doesn’t help that the median annual household income was $60,336 back in 2017. According to the U.S. Census Bureau, that marks the fifth year where there was an increase in household income for the entire nation.
While that sounds promising up front, there is so much more to be considered. You’ve got areas across the country that skew that number to make it seem so much higher than it is. Also, when you take into account inflation, the country is experiencing the highs in income that were last seen in 2007.
The recession hit in 2008 and household income took a sharp drop over the following years. As recent as 2012, the total median household income was between $54,000 and $55,000. Over time, the economy has bounced back, but inflation keeps people living paycheck to paycheck.
Simply having a living wage is hard, so what is someone to do to begin to generate a positive cash flow when funds are limited?
Understanding Real Estate Leverage
Real estate offers you more leverage than most other investment opportunities. You can invest without having to pay the entire mortgage cost. Let’s put it another way - imagine that you’re buying stocks. To buy, you have to pay the whole amount up front, right?
It doesn’t work that way with real estate. You only have to pay a percentage of the home to be in complete and total control of the property and all of its associated assets. This, again, relies on creditworthiness as well as your debt-to-income ratio, but you may qualify for a mortgage with a minimum percentage down.
Real estate flippers use this leverage to take out multiple mortgages that are also known as home equity loans to put down another payment on a different property. The options at this point are to either rent the property out to a tenant or to sell the property for a profit.
As long as you have a tenant in your property or you’re selling properties, you stand to have a positive cash flow and a self-sustaining, budding real estate business in the making. It will take some time, but it can be done with wise investments and good financial sense.
Leasing With an Option to Buy
When you have no money to speak of that you could use to begin investing in real estate, this is the first option you want to explore. To go this route, you need to find a seller that is willing to lease their property to you with exclusive permission to buy it after a pre-determined amount of time.
Going this way means that you don’t have a closing to attend, but you do have a contractual obligation to make payments and eventually purchase the property. The next step would be to find what is called a tenant buyer.
A tenant-buyer is someone whom you grant the exclusive right to Option a given property for a price for a limited amount of time. There is typically a non-refundable deposit for this opportunity, and that deposit is yours.
The tenant buyer then pays a set amount on a monthly basis. Typically, this should be between $100-$200 higher than the leased agreement you have with the buyer. It’s for two reasons. One, you build up money to cover any unexpected expenses if the tenant-buyer ends up leaving and tearing up the house.
The second reason is that if you don’t need to use the funds to cover expenses left by the tenant-buyer, then that money becomes yours. Keep in mind that with this approach, there is more risk involved, but it’s a decent starting point if you don’t have money to use up front.
Option a Property Instead
This method is a little trickier, but it can work wonders to make you some quick cash if done correctly. With an Option, the seller gets to continue living in their home until you’ve decided to buy it. You are also not responsible for making monthly payments in this scenario. Here’s how it all works.
Motivated sellers live in the home, taking care of payments and maintenance until the home is sold. This is a situation that may occur if they simply want to sell but don’t want to deal with typical real estate transactions, closing costs, etc.
Instead, these sellers simply want to get out of their home for a variety of reasons. One of those reasons is foreclosure. You can choose to Option a house that is behind on their payments if you can buy it in a shorter amount of time.
The other way to Option a property is to get a set time frame to buy a seller’s house and then find a buyer that is willing to pay more than you have the Option set at. Going this route will get people that are either paying in cash, or they can qualify for a loan on their own.
You may think that it’s impossible to sell a home or buy a home at a wholesale price, but that’s not entirely accurate. It will take more work on your part to find them, but going this route can gain you lots of money very quickly.
The success of investing in real estate this way can also depend on whether or not you have extra cash to make it happen. Money isn’t always required, though, so it could work even if you don’t have money available.
Your focus here is on foreclosures that belong to banks. The way it works is that you have to accurately appraise a property value and buy it low to then sell at a higher price. The beauty of this technique is that you don’t necessarily have to fix anything either.
It’s not unheard of to do this with private sellers without money, but you’ll be more successful with money and going to a bank. Banks do require proof that you have funds available before considering your offer, so this may be a step better left for once you do have a positive cash flow coming in.
This may or may not be limited by your finances, but it is certainly limited by your credit score. If your credit is excellent, you may be able to invest in budding markets and flipping houses. That means identifying new areas that are just starting to build themselves up.
Over at Forbes, there is a neat tip that gives you an idea of how to figure that out. The author says that he would ask new and young residents where they moved. More often than not, they would mention a neighborhood that he was unaware of.
The follow-up question was whether or not more young people were moving into that same area. When the answer was yes, it signified an investment opportunity. Property values rise as earning power does, so with this group of people, demand increases while wages do, too.
If you can get approved for a home loan and flip the house for a higher amount quickly, you’ll start to make money back and therefore generate positive cash flow. Now, there is always the risk that you won’t be able to sell it right away, so you’re best off with having some cash to pay the mortgage while you’re biding your time.
Real Estate Investment Groups
Working with a real estate investment group is a great starting point for a beginner investor. You do need to have access to some sort of financing which again relies on creditworthiness and debt-to-income ratio.
Getting involved with a real estate investment group also means you don’t have to be a landlord, so the mundane tasks become something you don’t need to worry about. It’s also a great choice because you will still receive some sort of income.
According to Investopedia, real estate investment groups are like mutual funds. A company will build or buy apartments or condos. That same company then allows investors to buy the units by going through the company. The company then handles the day-to-day operations like managing the units, maintenance, advertising, and taking care of the tenants.
The company keeps a percentage while the remainder belongs to the investors. This kind of arrangement makes it incredibly safe for anyone to get involved in real estate investment. In a properly run real estate investment group, a company will also pool the rent to maintain coverage even if there are the occasional empty units.
You Could Be a Landlord
For some people, this is the way to go. You do need some capital up front for financing as well as maintenance costs that you’ll have to cover before renting out a property. You also need to make sure you have extra funds for those times that the unit sits vacant and to pay for repairs that a tenant will eventually need.
Rental properties are an excellent source of income assuming everything works the way you want it to. On the other hand, maintaining them also demands more of your time and energy unless you decide to hire a property management company to oversee your property. If you do that, then you’ll also lose a portion of your cash to the company.
Of course, on the bright side, if the property is completely paid off, then the majority of the rental fee goes in your pocket. If you want to go the rental property route, then you do need to be prepared to do it as a long-term investment.
Another perk of having a rental property is that real estate tends to appreciate over time. That means that at some point, you will be the proud owner of a valuable asset. Even when the housing bubble burst back all those years ago, the dip did not last and had since continued to increase.
At the End of the Line
Even if you start with nothing, your cash flow will increase as you advance in real estate investment. Your life will also improve as you move forward with the positive cash flow because you’ll have a greater amount of money to pull from as needed.
Your debt-to-income ratio will also improve because your income will grow while your debt remains manageable under your ever-changing revenue. That means your creditworthiness will also improve because you’ll have the cash to manage your personal debt.
Understand that true mastery in real estate investment is not a get rich quick scheme. People that try for that tend to be disappointed because it takes more work than they thought. Don’t forget that the first check you get might be on the smaller side, but it’s a start.
Take the time to learn the business and make it work for you. Just give yourself some grace and don’t expect the impossible. Soon enough, you’ll be a real estate investment pro.
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