Wealth Building vs Cash Flow

[Don Konipol]

Wealth Building vs Cash Flow

My proposition is that too many real estate investors, much too often, emphasize cash flow over increasing net worth. While cash flow is important, it should NOT be the ultimate financial goal. Building your net investable assets to their highest amount will enable you to meet all your financial goals, including your target passive income.

As an example of this (I’ve used this example in a previous post) I had ownership in a retail/service center I desired to sell. Rather than accept an offer to cash out (offer restricted by current appraised value which because of recent vacancies was low) I chose to sell on a wrap around note. The transaction was a little complicated because the buyer was a group formed by an investor owning a 40% interest in the subject property (my partner and I were the managing partners of the current owner entity and 60% owners. Essentially the sale came down to this

1. Accept $450,000 cash, or

2. Accept a $1,300,000 first lien note, payable at 10% interest only payments for 24 months, and convertible into a 15 year 11% note with 3 year interest adjustments with11% floor fully amortized. Subject note wraps around an existing 4% interest 180 payment $615,000 mortgage. This results in a net note of $685,000.

So, by suggesting #2 above, and having the buyer accept such, we were able to accomplish the following

1. If the note is refinanced immediately we increase our net worth by $685,000 instead of $450,000.

2. As long as the note payments are being made we are receiving a return of 17% + on the $450k we could have cashed out on - a much greater return than we could have reinvested at. (Our ROI is greatly enhanced by the fact that we are receiving 10% interest on the $615,000 while paying out 4%).

3. If the borrower defaults then we own a property minimally valued at $1,700,000 while owing about $635,000, or equity of $1,100,000! Reason for this is that our 40% partner who leads the group purchasing the property accepted a SUBORDINATED note for his interest in order to put the deal together.

Bottom line is this, by utilizing a number of CREATIVE real estate principles, financing, deal making, etc. we have increased our wealth by anywhere from $235,000 to $635,000 over what we would have had accepting a cash sale.  If my emphasis was on CASH, I would have just accepted the cash sale. However, with my emphasis on ESTATE BUILDING, I was able to accelerate the wealth building process.  

Btw, commercial and investment real estate brokers are in a tremendous position to take advantage of the fact that many sellers want CASH. So, if a broker came across this as either their listing or as an existing listing and had access to investment capital, they could buy out the equity position or one of the equity partners and structure the above transaction. With an invest of either $450k or $225k for halve, they’d have created immediate equity of 50% more than they invested! And their investment at cost would be earning 17% + !

Let me know (1) what you think of this wealth building technique (2) wealth building techniques you used or would like to use and (3) my proposition that investors should concentrate on wealth rather than cash

[Jay Hinrichs]

Don,

Further I will say that investors only equate cash flow to rental income and they are unaware of cash flow through notes and other debt obligations. now granted owning the asset also gives you tax bene's that notes do not. But there is more types of cash flow than dealing with the three Ts .. so maybe some diversification could be in Order for the experienced investor.

[Don Konipol]

Quote from @Jay Hinrichs:

Don,

Further I will say that investors only equate cash flow to rental income and they are unaware of cash flow through notes and other debt obligations. now granted owning the asset also gives you tax bene's that notes do not. But there is more types of cash flow than dealing with the three Ts .. so maybe some diversification could be in Order for the experienced investor.

 Another really good point, Jay.  As I’m sure you know high yield notes work best when owned by a Roth retirement account.