| Cashflow Strategy 101
Simply put – An investment property that generates more income than the related expenses is classed as a “cash flow” positive investment property. There are many advantages to owning an income generating rental property. Although you will not be able to get any tax advantages of negative gearing.
How do You Calculate Cash Flow?
Cash flow in dollar amount is a simple calculation of income less expenses. Positive cashflow is when expenses are less than the income.
Calculating Your Total Property Expenses
Be sure to look at all your expenses. These may include:
- Repairs and maintenance (Plumber, Electrician, Handyman)
- Renovation costs
- Pest control
- connecting utilities and services
- Finding new tenants (advertising)
- Land tax & Council rates
- Accountant’s fees
- Legal fees & Insurance
- Strata and body corporate fees
- Damages if you have problem tenants
Another way to look at cash flow is “Net Rental Yield”, which is expressed as a percentage and is a more accurate estimate of your return on your investment.
Cash flow is a function of net rental yield. Net Rental yield is used to measure of how much profit/loss a rental property produces per annum, calculated as a percentage of the property’s value.
This is How to Calculate a Net Yield.
- Add together all your costs
- Calculate the annual rent
- Subtract the total costs from the total income from your property.
- Then divide that figure by the value of your property.
- Finally Multiply the resulting figure by 100 to get a percentage figure.
Below is a Sample Net Rental Yield Calculation
So for example, let’s say you are receiving $30,000 a year in rent
You have $5000 a year expenses
You are paying $500,000 for the property.
Your gross rental yield is 5%
$30,000 – $5000 = $25000
divided by $500,000 multiplied by 100
Note: By reducing your loan to value ratio (LVR), you can ensure an immediate positive cash flow. The property can still be negatively geared for taxation purposes after you have deducted depreciation. (Although depreciation is a non cash cost)
-Please see our separate article regarding depreciation.
Pros of a Positive Cash Flow Strategy
- A regular income stream is the obvious Appeal – Especially for first time property investors
- A positive cash flow increases your “capacity” And makes you more attractive to lenders
- If you have other rental properties that are not cash flow positive, a cash flow positive property can help balance your portfolio
- A property that is cash flow positive sometimes appreciates in value quicker, as it is more attractive to more investors.
Cons of a Positive Cash Flow Strategy
- Positive cash flow is added to your taxable income
- You wont get any negative gearing tax deduction advantages
- Often, positive cashflow positive properties are in regional areas, which may not have consistent long term capital growth.
How to Find Positive Cash Flow Properties
If you have decided that your investment strategy is to purchase a positive cash flow property, below are some strategies to help you. A good buyers agent will be your best help with this.
- Search for properties that are located in suburbs that have high net rental yields
- Suburbs that are close to universities often have a high rental demand and therefore high median rental yields.
- Research the suburbs key fundamentals = (Median price, rents, demographics, days on the market, current discounting, capital growth history, infrastructure projects and of course comparables)
- Do a detailed cash flow and capital growth analysis on any property that interests you
- From this analysis – determine the maximum price you are willing to pay that will deliver you a strong rental yield – And do NOT pay over that. (Your Buyers Agent is the best person to help remove the emotion from the negotiation process).
- In calculating what you are willing to pay, ensure that it is 20% + under the suburb median price. This will also assist with capital growth.
You can change a property that is negatively geared into a cash flow positive investment by reducing your loan to value ratio, or making improvements that will allow you to charge more rent.
Finding the right cash flow positive investment property may take some time. But your time and effort will be rewarded in the long run. Use a profession Buyers Agent to help you through the process to save you making mistakes that cost time and money.