With turnkey property investing, there are at least two different strategies. Arguably, the two most popular strategies to invest in turnkey rental properties are cash flow and appreciation. But, is there a winner with these two? Is there a true better way to invest in turnkey real estate? We think so.
(If you just want to see the comparison, numbers wise, between the two strategies, skip down to below the property photo.)
First, let’s look at the appreciation strategy. With this, you the investor are banking on the property to be worth quite a bit more in five, ten, twenty years when you decide to exit. In a perfect world, a great market can average 6% or more apprecaition per year. For example, you purchase a new construction property in an A class or high B class up and coming area. (Note: Almost always, appreciation investments are in A class or high B class areas where the minimum entry investment is high.) We will set the price at $175,000, say you put 20% down, and have average taxes and insurance costs. Monthly mortgage is $1124. If you hold that property for 10 years, it will be worth a little over $350,000. Profit on cash invested? $315k. Using a 1% rent-to-value ratio, you would ideally rent this property for $1750 per month (we won’t take into account rent increases to keep it easy). Taking out 6% for vacancy, 8% for maintenance and 8% for management, you’re cash flowing at $241 per month. It would take you a little over 12 years to earn back the $35k you originally invested. But, you’re selling right? So you’ll be getting most of it back when the time comes. Sounds perfect, right?
Well. If everything goes exactly as we wrote it above. The main number that must remain for this to work in your favor is the 6% average appreciation. The real estate market always has peaks and valleys. Right now, real estate is hot. We’re on a high for sure. But what happens in five years? Ten years? Three years? Only a time traveler knows. It’s the unknown.
That’s why the appreciation model is not a sure win. It’s speculative. It’s a gamble.
Are there great markets to invest in for appreciation? Absolutely. It’s still a gamble though. The market has to be perfect when you’re ready to exit. If you’re creating a personal wealth plan with a goal to meet in 10 years, you better pray for appreciation to stay on track and the market to be great when you’re ready to sell.
Now let’s look at the cash flow strategy. This is a strategy that mainly focuses on the monthly cashflow you can create through turnkey investments. Many cashflow focused turnkey properties in Dayton, Ohio, sell for an average of $75k-$120k for single family and up to $165k for a fourplex. We will use a recent fourplex we sold since it’s the closest comparison to our above new construction property. This was a fourplex that sold for $165k. If financing were used, putting down 20% ($33k), and having average taxes and insurance costs, the monthly mortgage would be $1064. This particular property rented for $2,400 per month. Taking out 6% for vacancy, 8% for maintenance and 8% for management, you’re cash flowing at $808 per month. It will take you just over 3 years to earn your full down payment back. After that, it’s all money you’re earning on your investment. If you decided to sell in 10 years, you will still have some appreciation if you’re selling in the right market. To be conservative, we will use 3% per year. In 10 years, the property will be worth around $214,000; a gain of nearly $50k. Not as big as the appreciation model, right? But wait. Don’t forget the seven years of earned money after paying yourself back for the initial down payment. That’s an additional income of $67,872.
Let’s compare the two strategies after 10 years:
Appreciation: Sell property for $350,000. Money earned in 10 years: $28,920. Minus original investment ($35,000). Total profit: $343,920.
Cash Flow: Sell property for $214,000. Money earned in 10 years: $96,960. Minus original investment ($33,000). Total profit: $277,960
Cash flow model shows you earning $65,960 less than appreciation model.
But wait. Let’s just say that original 6% appreciation you banked on didn’t pan out. We will make it 3%. In that case, here are the numbers:
Appreciation: Sell property for $227,000. Money earned in 10 years: $28,920. Minus original investment ($35,000). Total profit: $220,920
Appreciation model shows you earning $57,040 LESS than cash flow model.
Finally, let’s just say there is absolutely NO appreciation. You sell in a terrible market and you sell it for the exact amount you bought it for. Which strategy is better for earned money on your investment?
Appreciation: Money earned in 10 years: $28,920. Minus original investment ($35,000). Total profit: -$6,080
Cash Flow: Money earned in 10 years: $96,960. Minus original investment ($33,000). Total profit: $63,960
If you take out the speculative, unknown of appreciation, there is a clear winner in terms of turnkey investment strategies.
Back to our original question – is there a better strategy?
If you want to almost ensure you get your money back and EARN money on your investment. Yes. The answer is the cash flow strategy. Appreciation should always be considered a bonus. Not something you rely on when you invest. Appreciation is never – ever – guaranteed. No matter what someone says, it’s not. Is there data to support appreciation? Yes. Is there also data that says another real estate dip may be coming? Yes. Is there data to support that long-term, rents don’t go down even in recessions? Yes. The cash flow strategy is one where you see your invested money back somewhat quickly. The appreciation model may give your money back – eventually – and leaves you hoping the market is strong when you exit. Appreciation also relies on you exiting. With cashflow, the longer you keep it, the more you earn. Plus, with most cash flow strategies, you’re able to buy MORE with LESS because these are typically (not always) B and C class areas where cashflow is strong and entry investments are low.
Here’s how to answer this question for yourself:
Are you a gambler? Are you willing to invest money and take a bet in the years to come, appreciation will happen and you will be high on the upside?
… or …
Do you prefer to invest, see a return quickly, and continue to earn money on your money for years to come with the potential to have some appreciation when you exit?
If it’s the latter, cash flow is for you.
Interested in learning more on how to invest in cash flow, turnkey real estate investment properties? We’d love to chat with you. Fill out the information below and we will be in touch!