Is an expensive market an exception to the cash flow rule?

Question

The question:

I would like to know if there is an acceptable exception to the "cash flow is king rule". I am in full agreement that a positive cash flow is a very important goal, due to the fact it insulates you from gambling on appreciation, equity, and rent increases.

I'm looking at the Seattle area (I live here) to make my first multi family ( 2/3/4plex) purchase. The outlook is very bleak in terms of properties that would generate a positive cash flow.

I'm wondering, for those of you that preach "positive cash flow is a requirement":

Would you relax this rule in a very expensive area, where duplex/triplex/quadplex prices are around 1 million? I would think that a small negative cash flow margin would be acceptable due to the much larger equity gains you are receiving (compared to a 100k property that has good positive cash flow).

I would love to know your thoughts.

Scott Morongell · Answer

@James Wierzba personally I would not make an exception unless you have a very very high income earning job and your willing to feed the property.

I think it also depends a lot of your strategy with the property. How long your going to hold it? Are you buying strictly to offset something else? Or are you trying to become financially free through investing? If the later is your primarily focus I would focus on a property that produces healthy cashflow that aligns with your risk tolerance.

Best of luck and keep us posted on your future decision!

Jonathan Woelfle · Answer

So the question you really have is not to do or not to do, but what your risk tolerance is. My risk tolerance is low. This is one of the reasons I like property investing. You need to decide what your risk tolerance is. That said I will comment on some of what I have seen in the comments. I don't do purchases with negative cash flow. That is crazy talk to me. Economies go up and down. Your property should be able to stand on it's own two legs. If it can't then you shouldn't be investing in it.

Now this is not to say you can't do low cash flow or better yet find ways to house hack it. I know my rental markets really well. If I see a 2 bed 1 bath going for under market value I ask why and see about improving it. So think outside the box on some of this. I am in the Seattle Market. Based on the numbers I see I would invest in South of or North of.

When to buy. I hear this question a lot. It is also nonsense to me. This is not a question of when. This is a question of numbers. The math does the work for you. If the numbers add up you invest. If the don't then you don't. That is it. Nothing more complicated than that. So that said you may want to review new ways to find deals. Go outside of the MLS. Hunt down clients. You can walk it to find locations with potential. You can ask Title for leads at usually 5 cents to 10 cents a lead and start mailing them. Good luck out there!

Jeremy Benezra · Answer

I heard another investor joke once that if you purchase too many "great deals" that have negative cash flows you'll make yourself bankrupt.  I agree the 2% rule doesn't apply to areas like Seattle but I'm adverse to any investment that I know will need money invested into it monthly, indefinitley.

Alex Deacon · Answer

@James Wierzba cash flow in a hot area like Seattle will be extremely difficult. I would watch the market there because it appears that it may be on the decline. If I am not mistaken the values there have nearly doubled in less than 10 years and thats not sustainable so there may be some good deals around the bend for you

Steve Vaughan · Answer

I'm not in Seattle, but am in a market where .5% MLS deals on small multis has become the norm and median home prices are $300k.

My goal is value and hopefully break-even (sometimes including principle pay-down) on my nicer houses.  My last 3 houses were break-even,  but purchased off market below FMV by 12-20%.  A few grand in value add in a good market will add tens of thousands to your equity so consider that, too.

If I was new, cf would be paramount and I'd have to explore tertiary or OOS markets.  As it is, my favorite market is about 30 mins away and I need a local maintenance guy.

Just banking on appreciation without buying below FMV is speculating.  Buy below FMV and get as close to break even as you can. Appreciation, forced and organic, has created the bulk of my wealth and I don't invest in a cf market either.

Alex Deacon · Answer

Google search charts and graphs on home values in your area. I am not an expert there in Seattle but I am an expert in my area. Real estate is the same regardless. I just know we cant sustain that kind of prices increases and its starting to feel like it did when the market crashed in 2007. I think we are heading in that direction so it could be a good time to buy in the near future.

James Wierzba · Answer

Thanks for the tip. I don't have much knowledge of macro-economic trends such as the one you are talking about.

What indicator(s) would you recommend looking out for to know when the "right" time to buy is?

Is an expensive market an exception to the cash flow rule?

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