The Cash Flow Trap

[Matthew Irish-Jones]

If you are just starting out I suggest you don't fall into the cash flow trap. 

What is the cash flow trap?  It starts with a picture of a guy with abs on a beach sipping a light beer next to a beautiful woman.  Then a caption about how he is living off of "cash flow."  It ends with you borrowing money from your parents. 

How does this happen? You get sucked into a dream that you can take $100,000 and keep rolling it over until you have $200,000 of passive income per year and you are on the beach.  

How to avoid all of this? 

1. Remove the dream of retiring on cash flow from your mind -   Real Estate investing takes lots of hard work, if you don't do the work, you are paying contractors, property managers and handymen do do the work, and they are taking a piece of your cash flow for their time.  Its a long term wealth building strategy, not a short term job replacement strategy. 

2. Value Real Estate in the following order.  a) Location b) Asset Condition c) Returns.  Most new investors disregard the most important aspect of Real Estate... location and start walking through places that look like S*it, smell like SH*t, and will most likely have returns like Sh*t, but their spreadsheet says otherwise.   If the location is crap, and the asset condition is crap, your bill is coming due eventually.  When it does, you can burn your spreadsheet. 

3. Chase consistent and reliable returns, not HIGH returns.  High returns = high risk. Life is short and your life will be shorter chasing sky high returns.  They exist, but not for brand new investors.   You are going to start at the bottom.  When you start at the bottom a 6% return for a nice double with a new roof, and updated mechanics is a win.  As rents go up your nice, conservative double is going to be a 7,8,9 and eventually some day a 10% return.   

4. Seriously consider the risk  -  Risk can be geographic.  Risk can be based on the asset itself.  Does it have lead paint on the windows, asbestos wrapped radiator?  These things increase risk, and if you don't know how to quantify that, you will take on too much risk for too little of a reward.  There is also a lot of risk in rehabs, especially if it is your first one.  Do you understand permits, asbestos tests, lead tests, building inspections, sub contractor insurance, GC insurance, hold harmless agreements, and the rest?  If not, you are once again not properly accounting for the risk involved.  

If I could do it all over again, I would have bought much better properties in much better condition, in much better areas from the start.