PAR for investing wisely in rental property is the accumulation of wealth and a steady income stream.

Real estate investments do not always generate immediate cash flow.  Substantial down payments are often needed to generate current cash flow.

In the long run (5 years or more), the inevitable property appreciation and equity build-up results in wealth and positive cash flow.

The amount of equity needed to generate positive cash flow increases as the expected appreciation increases.  If there is little appreciation expected, then investors require greater cash flow.  If there is swift appreciation in the market then cash flow becomes less important.

During the last 15 years annual rents for houses in Fresno have been roughly equal to the mortgage rate times the value of the house. Between 2002 & 2005 home prices in Fresno  increased dramatically and rents were stagnant. Rents for single family homes started to rise slightly in 2006 but stagnated in 2007 & 2008.  There is downward pressure on rents in 2009 as vacancies increase.   Annual rents had been 4.5% to 5% of value during the boom years.   Now that housing values have declined  we are seeing annual rents equal to 8% to 10% of current market value.  Example:  The annual rent for a $125,000 house is about $11,000 to $12,000 ($950 to $1000/month) or 8.8% to 9.6% of value. (posted 4/1/09).  This situation is not stable since interest rates are in the 5.5% to 6.5% range.  The cost of ownership for the same house is about $875 per month with nothing down.  One of two things (or both ) can be expected to happen:  1. rents will decrease 2. home values will increase.

Gross rent & net income are of course different things.  My analysis of 20 residential properties shows a net cash flow after all expenses except debt service equal to about 4.5% of value.

example:

The cash flow will support a "break even" loan of $1,800,000 at 6.5%, 30 year.  This is 60% loan to value.  Part of the payment will be principle and a loss will be shown for income tax purposes after the non-cash expense of depreciation.

Is that a good deal?  Works for me. See Bob's get rich scheme.

It is interesting that investors in real estate often expect to put 10% down and receive a positive cash flow.  If this were possible then everybody would be buying property and the prices would be driven up and the cash flow down.

These same investors make stock market investments that produce no current cash flow and only a hope of increased value.  They would never even think about financing stock purchases especially not 90% of the cost.  So why do they have such unrealistic expectations of real estate investments which seem to have less risk?

PAR 4 Properties is owned by  Bob Hooke       Robert E. Hooke 4025 N. Fresno #104, Fresno CA 93726 California real estate broker's license #00620183

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