Cash Flow

As a Realtor, I am always asked the seemingly simple question: “Where is the best place to invest in real estate?” My answer is: “It depends.” What may be a good place to invest for appreciation may not be the best place to invest for ‘cash flow’. Let’s focus on cash flow.

Considering our competitive rental market, my rule of thumb for inexperienced investors is to target the ‘bread and butter’ neighborhoods of homes priced below $125,000. Even with 100% LTV financing, the ratio between the gross monthly rent and the monthly mortgage payment, (debt service) will be more favorable than had you purchased a home in a more affluent area. Cash flow investors want good ratios.

Inexperienced and motivated investors sometimes make the mistake of calculating ‘cash flow’ simply as the difference between the gross monthly rent and the debt service. Be careful! When calculating cash flow, one must not only consider the principle and interest (PI) on your monthly mortgage payment, but one must also factor in the taxes and insurance (TI). Combined, is the monthly PITI that we have all heard so much about.

But wait, there’s more! Make sure to subtract other costs including, but not limited to management fees, maintenance fees, servicing fees and any other pennies and dimes it costs in order to ‘hold’ your investment. Once you subtract the PITI and fees from your gross monthly rent, you are left with your ‘Net Operating Income’ (NOI). Only when you have figured your NOI can you subtract the debt service to calculate your positive (or sometimes negative) cash flow.
Remember, setting your goals is paramount to a good investment strategy. Are you looking for appreciation or cash flow? The answer to that question will drive the answer to the query, “Where is the best place to invest in real estate”.