Bigger Down Bigger Gain?

Question

Hello all.  New to the BP group.

I'm reviewing rental calculations and cash-on-cash returns, and I have a question about a rental property in the Cleveland area. Looking at a prospective property with the assumption of a positive and conservative rental income potential compared to the property's cost, I am showing an 8% cash-on-cash return. (Appreciation not included)

I see just under an 8% cash-on-cash return with a 25% down payment, and I am considering how the cash-on-cash return would look with a larger down payment of 50%, for example (showing a little over 8%). I have the cash, and my question is as follows: if the property is producing a very good cash-on-cash return, I think that continuing to have a cash-on-cash return with a higher down payment improves the returns on my money compared to keeping it in CDs or the stock market.

I am 62 years old and need to play a conservative investment game with the stock market, focusing on CDs and dividend stocks. I understand that I could buy additional properties and aim for an 8% to 10% cash-on-cash return with another property. However, it seems it would be much less work to have it all in one property where it is easier to manage.

I get the BRRRR method—rinse and repeat, etc.—but let's set that aside for now and look at buying one property with a 50% down payment with 8% returns versus two properties with 8% returns with 25% down on each property.

Samuel Diouf · Answer

Hey Tom, I would start with buying one property that's in a good neighborhood that won't have any expected up-coming big-ticket expenses. Properties like this will be the most passive and least stressful to own.

Christine Mulkins · Answer

In my opinion, if you can cash flow at an 8% ROI with the least amount of money down, that's a home run all day!!  Use the rest of your capital to buy more cash-flowing properties. Economies of scale will out perform any gain you're trying to get from "paying" for a better ROI in a single transaction.

Drago Stanimirovic · Answer

Hey Tom,

You’re thinking through it the right way. Putting 50% down will slightly improve cash flow and reduce risk, but your cash-on-cash return won’t jump much since you’re investing more capital. That said, if you're prioritizing simplicity and stability over scale, one well-performing property at 50% down is a smart, conservative play, especially compared to CDs or dividend stocks.

Going with two properties at 25% down would give you better leverage and higher overall returns, but also more management and complexity.

If you want help structuring financing that fits your goals, happy to connect.

Greg Scott · Answer

Tom

You are correct.  Because your return is 8% and mortgage rates are close to 8% the amount of leverage doesn't change the cash on cash return.

On the other hand, leverage can be very beneficial. Let's say you could find a house that gave you 10% cash on cash with no mortgage.  If you can get a mortgage at 7%, the money your borrow still makes 10%.  You benefit from the arbitrage.  In that case, your cash on cash goes up the more leverage you have.

A few things to consider.

1) Cash on cash is one of several ways we make money in real estate.  One of the best is getting equity capture.  In other words, buy below market.  There are also appreciation benefits, loan paydown benefits and tax write-off benefits.  If you had to chose between two houses 50% leveraged and one free-and-clear, the two houses would almost certainly make your more money

2) If you are trying to be conservative, the most conservative thing is to have cash on hand.  For example, a free-and-clear house with zero cash in the bank is much riskier than a 50% leveraged house with ten thousand dollars in the bank.  In other words, no debt and no cash is much riskier.  Some of those the anti-debt crowd got killed in the GFC.  If they had been putting every $ to paying down their mortgage and then lost their jobs, they had no excess savings to bridge them to the next job.

Now, on the question you didn't ask. I'd recommend you find a house with better cash on cash return. Eight percent is on the very low end of what I've been seeing.