Solving the negative cash flow issue with LA rentals

[Account Closed]

So you are told its impossible to cash flow in LA. Actually you can, it just requires slightly more cash down. You can also try lowering expenses, although that might barely make a difference.

If data from Zillow is correct, current median listing price for a home in LA is about $749,000. You can almost forget about a nothing down purchase... with a 20% down payment, 4.7% 30-year conventional mortgage rate and financing the principal of: $599,200, your monthly mortgage payment would equal: $3108. 

But median LA rent for a home appears to be about $3500. We already see some problems here. To break even, you would have to keep total expenses at 11.21% or $392 per month -- thats a long ways from 50% suggested by the 50% rule. Using estimated expenses of 45%, the result is a monthly negative cash flow of $1,182.68. 

So owner would have to incur an additional out of pocket expense of $14,192.13 per year, just to maintain property and hoping property appreciates in value in excess of this amount just to soften the hit.

Median LA Listing Price	$749,000
20% Down Payment	$149,800
Loan Principal	$599,200
Mortgage Rate	4.70%
Term (months)	360
Mortgage Payment	$3,108
Median LA Rent	$3,500
Avg Expense 45%	$1,575
Net Operating Income	$1,925
Gross Income Per Year	$42,000
Cap Rate	3.0841%
Cash Flow	$(1,182.68)

In order to break even, and we aren't even talking positive cash flow yet, you would need a down payment of about 50.45% of the property value to significantly reduce loan principal. 

Example: holding all else constant,  50.45% of the $749,000 in cash for the down would reduce loan principal to about $371,165 which then enables property owner to break even. 

Median LA Listing Price	$749,000
50.45% Down Payment	$377,835
Loan Principal	$371,165
Mortgage Rate	4.70%
Term (months)	360
Mortgage Payment	$1,925
Median LA Rent	$3,500
Avg Expense 45%	$1,575
Net Operating Income	$1,925
Gross Income Per Year	$42,000
Cap Rate	3.0841%
Cash Flow	$ - 0

Is a 50% down payment weird or normal in your market? 

So if you thinking about scooping up a rental in LA, the real question is, how much down you planning to play with?

[Thomas S.]

Only the most inexperienced of investors would invest on the assumption that the equity (DP) in a property increases cash flow.

True cash flow calculations can only be made based on a 100% financed property. That would be taking into consideration the prevailing mortgage interest rates to calculate cash flow. Once a investors throws cash into the deal that equity cost is calculated based on a assumed opportunity value of 10%. This is obviously much higher than prevailing costs of financing resulting in DP (equity) actually reducing cash flow on a property not increasing it. Equity is a extremely expensive way to purchase artificial cash flow.

Any investment property that can not show true positive cash flow with 100% financing can never have true positive cash flow. Equity will only make cash flow numbers worse assuming a investor actually understands and appreciates the value of money. 

For every 100K in equity it reduces any true cash flow on the property by $866/month.