I'm not sure of what my opinion is on this, and would like to see what others think on the matter. Here on BP, the mass majority of advice and articles are focused on cashflow. I see the obvious benefits of cashflow, which are the following: • 1) Safer in the case of a downturn. Even if property values tank, people still need a place to rent and rents may even go up. • 2) You can easily access the returns from cashflow, and potentially live off of cashflow passively. • 3) Since cashflow returns are immediate, you can reinvest those returns quickly as opposed to value locked away in equity. • 4) Cashflow properties are often cheaper, meaning a lower barrier for entry. • 5) You don't have to worry about buying at the wrong time, as you are profiting immediately. • 6) Predictable. You don't know for sure whether a market will appreciate or not, but you can see pretty clearly what will cashflow. • • On the flipside, the benefits for appreciation: • 1) Higher property values, meaning you can invest more $ with less properties acquired, less time spent buying/managing/maintaining. • 2) Maintenance costs, and sometimes taxes, are proportionally lower in a more expensive house. 10 new roofs on a $40k house will cost a lot more than 1 roof on a $400k house. • 3) Loans are easier to get and better interest rate. Most banks won't even consider a $40k property, and the few that will charge higher rates or huge origination fees. You can invest more $ into real estate before hitting your 10 conventional loan limit. • 4) Tend to be in more desirable areas, meaning lower chances for bad tenants. Also higher chances for rent/ property value growth in the future. Most appreciation markets tend to be in areas with positive growth, whereas many cashflow markets are depressed and losing population and jobs. • 5) Though you may not cash flow immediately, after held for long enough it likely will, and will possibly even surpass an equal value of cashflow from cashflow properties. • I think that both make sense for different reasons, with cashflow markets being better for those who are just getting started, and those who want to aggressively scale up using the cashflow from previous properties to buy new ones. Appreciation markets seem like they would favor a more passive investor who can afford to buy and sit back for a decade or two, using the investment as a supplement to their primary income. I currently own property in a cashflow market, and am looking at picking up some properties in a mixed market before potentially moving into appreciation. I'd love to hear your thoughts on this complex topic.

I am not sure what you are trying to say. If any type of hyperinflation occurs, you're going to see properties hyperappreciate, not the other way around. Orlando's RTV is lower because it is a crazy hot market, and there is a ton of competition bidding up prices. 0.6% sounds optimistic for the Bay Area, maybe if you're buying a property in the hood. Why would lower rental yields mean more appreciation? I think your definition of a "cashflow market" is not the heavy cashflow midwest markets that I was mentioning earlier. Aside from Columbus, most of them are not appreciating. If you're talking mixed markets, I agree that you can have both, but you will sacrifice some initial cashflow for that appreciation on the back end.

For long-term investing, is cashflow or appreciation better?

Joseph CacciapagliaBusiness Member

Lender · San Antonio, TX · Member since 2020 · 1k+ posts · 1k+ votes

5y

The real key to this analysis is your #5 under the appreciation benefits. I think the biggest benefit in most "appreciation" markets is that they tend to also have strong rent growth. I've looked at several "cash flow" versus "appreciation" scenarios over long periods of time, and in many cases the appreciation markets create more cash flow during holding periods longer than 5 years. I believe that anyone that plans to hold properties for the long term would be better off focusing on rent growth and appreciation than they would on year 1 or in-place cash flow.

I also think your discussion on being able to scale up with cash flow faster than appreciation is off base. A lot more of my investor clients scale up through cash-out refinances or 1031's than through cash flow. Let's say you're getting a 12% cash on cash return annually in your cash flow market. If you save every penny of that, it will take you 8+ years to save the same down payment that you made into that particular investment. However, with only a 3% appreciation rate, you'll have enough to put down on a second property with your accumulated equity in 4-5 years.

In reality though, most investors that scale rapidly do so by creating value, using outside income, or using other peoples' money. Neither cash flow nor appreciation on it's own will allow you to snowball your investments very rapidly.

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9 Reply

Claudio Salvatorelli

San Diego, CA · Member since 2020 · 150 posts · 54 votes

5y

Go with the cash flow and equity will increase proportionally.

0 Reply

Mark H. Porter

Investor · SC NC, VA · Member since 2020 · 1k+ posts · 756 votes

5y

As @Claudio Salvatorelli says, increasing cash flow and appreciation are aligned, not separate. My experience, 100% of the time and though about a dozen buildings, has been I buy value-add properties that are substantially under the market, rent-wise. I do floors, maybe electrical, paint, minor remodels including countertops or vanities, raise rents to market, match the market cap rate, property increases in value up to 30% within one year.

Appreciation was due to increased NOI, not in lieu of it.

1 Reply

Jon KellyPro Member

Investor · Bethlehem, PA · Member since 2016 · 929 posts · 951 votes

5y

@Tyler D. You laid out the benefits for each nicely. While cashflow and appreciation usually go hand-in-hand, if you have to make a choice I think most would choose cashflow. It's more of a "sure thing" and the benefits are immediate.

You could argue cashflow is more of an "active" strategy, while appreciation is a more "passive" strategy.

0 Reply

Steve Morris

Real Estate Broker · Portland, OR · Member since 2019 · 4k+ posts · 2k+ votes

5y

Cashflow you know now.

Appreciation you're hoping for in the future.

3 Reply

Steve Vaughan

Rental Property Investor · East Wenatchee, WA · Member since 2014 · 10k+ posts · 16k+ votes

5y

@Tyler D. I like to re_word this question for clarity. Is cash-flow or equity better? Appreciation brings in a hope factor. Equity does not.

I have done both and am an equity investor. Equity is captured at the buy and grown by adding value. One strategic buy in a nice area for me will capture years worth of in the trenches hard slog cash-flow. And that's before adding my standard 10x value to cost standard improvements.

Most see cash-flow as the sure thing vs equity. I do not. Years of cash-flow can be wiped out with one bad tenant or a large cap ex. It can be severely reduced with mediocre property management or creamed with risky deadline debt.

Cash-flow has the risk, not buying right and capturing equity in good neighborhoods. Equity buys all the way.

7 Reply

Alexander Szikla

Real Estate Agent · New York City · Member since 2020 · 818 posts · 639 votes

5y

@Tyler D. Appreciation is great, but I would just like to point out that flipping is highly disadvantageous when compared against a buy and hold approach due to (a) Short term capital gains taxes (b) Transaction fees - agent/lawyer (c) No depreciation benefit

Cash flow is great, often at the expense of appreciation though, but the question is how well can you redeploy said cash flow? Are you just using it to live? Is it sitting idle in a savings account?

Appreciation and paying down debt are very valuable because they putting redeployment of capital on "autopilot"

2 Reply

David Song

Real Estate Broker · Redwood City, CA · Member since 2014 · 679 posts · 888 votes

5y

For lower income individuals, cash flow is more important to support their living expenses.
for high income individuals, cash flow is compromised due to their high tax bracket. Appreciation is much more attractive.

When I first stared in 2009, the only consideration is cash flow, since I did not know better.

Now, i am balancing those two together, along with my income bracket. I want negative cash flow if possible, with maximum appreciation.

Bottom line is you have to look at your tax return and tax bracket, before making a calculation on your investment strategy.

7 Reply

David Meng

Member since 2020 · 20 posts · 15 votes

5y

I use three parameters: Cash flow; Appreciation; Principal reduction. The principal reduction comes from paying the mortgage every month.

The rate of return = (Cash flow + Appreciation + Principal reduction)/My cash that is invested in this house.

If the rate of return is good, such as 20%, then it is worth buying for me. So I focus on the rate of return, instead of cash flow or appreciation alone.

3 Reply

Tyler D.

OP

Member since 2019 · 219 posts · 99 votes

5y

Originally posted by @Alexander Szikla:

@Tyler D. Appreciation is great, but I would just like to point out that flipping is highly disadvantageous when compared against a buy and hold approach due to (a) Short term capital gains taxes (b) Transaction fees - agent/lawyer (c) No depreciation benefit

Cash flow is great, often at the expense of appreciation though, but the question is how well can you redeploy said cash flow? Are you just using it to live? Is it sitting idle in a savings account?

Appreciation and paying down debt are very valuable because they putting redeployment of capital on "autopilot"

I'm looking at both appreciation and CF from the perspective of long term buy and hold. I don't consider flipping to be an investment, it's more like a 2nd job.

I agree that cash flow is hard to use effectively. If the strategy is to hit $x in CF, then quit your job and sit on a beach somewhere, I get it. If the goal is to deploy the maximum amount of $ into income producing investments, that is a bit more problematic. You'd need to constantly be on the hunt for deals, which could end up being close to a part time job.

I disagree on paying down debt. The whole point of taking on debt is leverage, and by paying down debt you are giving back that leverage. Even if you don't want to look for more properties, you could put that money in stocks which should give a higher return.

1 Reply

Tyler D.

OP

Member since 2019 · 219 posts · 99 votes

5y

Originally posted by @David Song:

For lower income individuals, cash flow is more important to support their living expenses.
for high income individuals, cash flow is compromised due to their high tax bracket. Appreciation is much more attractive.

When I first stared in 2009, the only consideration is cash flow, since I did not know better.

Now, i am balancing those two together, along with my income bracket. I want negative cash flow if possible, with maximum appreciation.

Bottom line is you have to look at your tax return and tax bracket, before making a calculation on your investment strategy.

Thanks for this post. I don't see this line of thinking often in the RE community.

Given that taxes can be as high as the 50%s for high earners, I could definitely see a benefit to having flat or negative present cash flow.

It's also interesting how you can use things like depreciation/ property taxes/ interest to mitigate income taxes.

I love high property tax areas for this reason, as they would reduce my taxable income and the cost of property taxes is usually paid off by higher rent, or lower purchase prices. It's almost a free benefit.

Random question, can you keep these tax benefits when the properties are put into an LLC? I would like to reduce my liability but not if it means a loss to the tax benefits on my personal income.

0 Reply

Tyler D.

OP

Member since 2019 · 219 posts · 99 votes

5y

Originally posted by @Steve Vaughan:

@Tyler D. I like to re_word this question for clarity. Is cash-flow or equity better? Appreciation brings in a hope factor. Equity does not.

I have done both and am an equity investor. Equity is captured at the buy and grown by adding value. One strategic buy in a nice area for me will capture years worth of in the trenches hard slog cash-flow. And that's before adding my standard 10x value to cost standard improvements.

Most see cash-flow as the sure thing vs equity. I do not. Years of cash-flow can be wiped out with one bad tenant or a large cap ex. It can be severely reduced with mediocre property management or creamed with risky deadline debt.

Cash-flow has the risk, not buying right and capturing equity in good neighborhoods. Equity buys all the way.

How do you capture this equity in the real world? Is this done by fixing up distressed properties, or buying in up and coming areas, or something else?

0 Reply

Steve Vaughan

Rental Property Investor · East Wenatchee, WA · Member since 2014 · 10k+ posts · 16k+ votes

5y

Originally posted by @Tyler D.:

Originally posted by @Steve Vaughan:

How do you capture this equity in the real world? Is this done by fixing up distressed properties, or buying in up and coming areas, or something else?

In a nutshell, buying off-market belly to belly from tired or transitioning landlords.

Nothing listed. Nobody's primary residence unless they are a sudden seller.

2 Reply

Tyler D.

OP

Member since 2019 · 219 posts · 99 votes

5y

Originally posted by @Joseph Cacciapaglia:

The real key to this analysis is your #5 under the appreciation benefits. I think the biggest benefit in most "appreciation" markets is that they tend to also have strong rent growth. I've looked at several "cash flow" versus "appreciation" scenarios over long periods of time, and in many cases the appreciation markets create more cash flow during holding periods longer than 5 years. I believe that anyone that plans to hold properties for the long term would be better off focusing on rent growth and appreciation than they would on year 1 or in-place cash flow.

I also think your discussion on being able to scale up with cash flow faster than appreciation is off base. A lot more of my investor clients scale up through cash-out refinances or 1031's than through cash flow. Let's say you're getting a 12% cash on cash return annually in your cash flow market. If you save every penny of that, it will take you 8+ years to save the same down payment that you made into that particular investment. However, with only a 3% appreciation rate, you'll have enough to put down on a second property with your accumulated equity in 4-5 years.

In reality though, most investors that scale rapidly do so by creating value, using outside income, or using other peoples' money. Neither cash flow nor appreciation on it's own will allow you to snowball your investments very rapidly.

Interesting points. I started thinking this way as well after I purchased my first cashflow property. It brings in a great amount of CoC, but the fundamentals of the area mean that cashflow will likely not increase by any meaningful number in the future. Property values have remained pretty much stagnant for the past 20 years and it is losing population.

On the flipside, places like NYC/SF are and have always been incredibly pricy. I would say that buying in a market like this is a huge gamble, but you can't deny that along with skyrocketing purchase prices, rents have also gone through the roof. If I could go back in time, I would much rather buy 1 of these properties than a similar value in a cheaper, stagnant area that won't increase in price/ rent.

1 Reply

Alexander Szikla

Real Estate Agent · New York City · Member since 2020 · 818 posts · 639 votes

5y

@Tyler D. Sure, but if that is your mentality (not necessarily wrong) you should be aiming to get the best interest only terms possible and constantly refinancing and redeploying into the stock market or other properties. Still begs the initial question.

1 Reply

Tyler D.

OP

Member since 2019 · 219 posts · 99 votes

5y

Originally posted by @Alexander Szikla:

@Tyler D. Sure, but if that is your mentality (not necessarily wrong) you should be aiming to get the best interest only terms possible and constantly refinancing and redeploying into the stock market or other properties. Still begs the initial question.

I suppose it could be that way, if taken to the extreme. I don't know much about I/O loans, but don't they typically come with higher interest rates? That would sort of defeat the purpose, as you can certainly beat a 2-3% interest rate with other investments, but higher rates are more questionable.

0 Reply

Bill F.

Investor · Boston, MA · Member since 2015 · 1k+ posts · 3k+ votes

5y

Originally posted by @Tyler D.:

Originally posted by @Alexander Szikla:

@Tyler D. Appreciation is great, but I would just like to point out that flipping is highly disadvantageous when compared against a buy and hold approach due to (a) Short term capital gains taxes (b) Transaction fees - agent/lawyer (c) No depreciation benefit

Cash flow is great, often at the expense of appreciation though, but the question is how well can you redeploy said cash flow? Are you just using it to live? Is it sitting idle in a savings account?

Appreciation and paying down debt are very valuable because they putting redeployment of capital on "autopilot"

I'm looking at both appreciation and CF from the perspective of long term buy and hold. I don't consider flipping to be an investment, it's more like a 2nd job.

I agree that cash flow is hard to use effectively. If the strategy is to hit $x in CF, then quit your job and sit on a beach somewhere, I get it. If the goal is to deploy the maximum amount of $ into income producing investments, that is a bit more problematic. You'd need to constantly be on the hunt for deals, which could end up being close to a part time job.

I disagree on paying down debt. The whole point of taking on debt is leverage, and by paying down debt you are giving back that leverage. Even if you don't want to look for more properties, you could put that money in stocks which should give a higher return.

I think questions like these miss the larger point that investing is an incredibly personal journey and the optimum strategy will differ for every person.

Even when you limit it to the best long term investment, the answer still depends on your knowledge, skills, and abilities. Are you a RE agent who lives and breathes the industry every day and has above access to deal flow. Or do you have a 9-5 where any time spent in RE is time away from something else?

Most of the points I'd make have already been hit on: LT investing is much better from a tax perspective/ transaction costs, @Steve Vaughan's point about equity can be summed up as price is what you pay, value is what you get. Amortization really kicks into high gear about halfway through the loan.

At a point all of us as RE investors will have to flip a mental switch and move from wealth generation mode to wealth preservation mode. That is a great thing about RE you can get both at the same time. With debt, some seed capital, and time, you can generate huge amounts of wealth and when the loan is paid off all that wealth sits in great asset for wealth preservation.

To your point about refi your cash an putting into equities, the internal logic doesn't add up, you ask a question about the best long term investing, then suggest a velocity of cash flow tactic that adds a bunch of risk all in the name of some increased marginal return. To each their own, but the two seem counter productive.

3 Reply

Tyler D.

OP

Member since 2019 · 219 posts · 99 votes

5y

Originally posted by @Bill F.: