Are buy and hold's really making money? Big picture question

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Are buy and hold's really making money? Big picture question

Philip Hy
Rental Property Investor · Plano, TX · Member since 2015 · 59 posts · 41 votes

I'm wondering if we're really making money. Not a rhetorical question, but would like genuine feedback. Here's the scenario. I want to live off of cash flow so I buy a lot of SFR. I then currently make about 550 cash flow per property, but after you figure maintenance/repairs, it's probably 300 per month per unit: $3,600/yr

The longer we hold a property, the more things break. Most expensive is probably the roof, which I estimate is $10k. So when the roof needs to be replaced, that wipes out approximately 2.5 years of cash flow. Then there are water heaters and AC units, etc.

As a result, living off of cash flow seems like a distant dream. While my rents will increase over time, property taxes are rising really fast in TX, so it's a wash.

Seems that I'll make money from appreciation and if cash flow once property is paid off. Depreciation is a benefit, but you have to pay it all back when you sell the property (unless I 1031). So basically is everyone's plan to pay off their houses and then live off of cash flow? Or is everyone buying houses as such a steep discount that they can live off of cash flow immediately? Or own such a huge portfolio that the little streams of cash flow become a torrent?

I feel like I'm missing something and would like to find out before I get disenchanted with SFR.

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Account Closed
Investor · San Jose, CA · Member since 2012 · 2k+ posts · 3k+ votes
9y

Philip,

Congrats on figuring this thing out. A lot of this game is all smoke and mirrors. The more I analyze, the more it doesn't make any sense to invest in non-appreciating markets because repairs, maintenance and cap-ex will catch up to you and your cash flow is all gone. Could this be the reason many properties in these markets get foreclosed multiple times during each downturn?

Forced appreciation and growth markets are where the money is. Forced appreciation allows you to recycle your capital to build wealth while growth = rent increase and equity increase. For every $500/month increase in NOI on forced appreciation, it's equivalent to $100k in equity in MY market. $50/month rent increase on a 10-unit bldg = $100k in gained equity. So it takes over 15 years of cash flow to get $100k in equity in non-appreciating markets.

Imagine you buy one 10-unit building and force appreciate $5k/month in NOI? How many of these deals do you need to do per year to make a comfortable living? Isn't this better than working a W2? Ironically, CA is a great place to invest long-term thanks to Prop 13. While our rent growth and appreciation have been averaging about 6% annually for the last 45 years, our property taxes go up at 2% annually. Buying assets below market value also keep our property taxes low for years and decades to come too.

If you look at all the posts from newbies on BP, they all want cash flow. Until they can change their mindset, they'll learn it the hard way. One has to build his wealth first, and the wealth will generate the cash flow for decades to come. Appreciation markets are what offer us this opportunity. Of course, this is only one man's opinion. Please take it with two grains of salt.

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  • Jeff B.
    Buy & Hold Owner · Redlands, CA · Member since 2015 · 5k+ posts · 2k+ votes
    9y

    You've discovered that the NOI on SFRs is very thin and you need a shopping cart full of them to make real money.

    This is why I went into MFUs 5+ as there are more rents each month and the expenses are very similar to SFRs. Most REI buyers have problems with commercial loans at LTV of 70-75%, but once you get there, your profits are much better and units 6-12 are not that much extra work compared to 6-12 SFRs.

    18Reply
  • Linda S.
    Investor · Richmond, VA · Member since 2016 · 1k+ posts · 2k+ votes
    9y

    It all depends on your strategy, everything about your question is dependent on your business plan.    If you buy houses in cash, yes-- you have to buy new everything, and it's expensive, but you're essentially guaranteed nothing will break for 5-10 years.    If you buy a nicer house with a mortgage, yes, stuff will break as it ages and it will be your job to replace it.   You need to determine your strategy and build a plan accordingly.  

    Another thing, is if you can learn to do the bulk of the maintenance calls yourself (basic plumbing/electrical,etc), your maintenance cost is minimal and your profits are much higher.   I will say, you have to be passionate about real estate to do it, if you're already iffy, it won't get any better. 

    10Reply
  • Andrew Johnson
    Real Estate Investor · Encinitas, CA · Member since 2016 · 3k+ posts · 3k+ votes
    9y
    Philip Hy I think you hit a lot of nails on the head. Personally, I stick with multifamily so that when things like a roof hits the cost/unit mitigates the per unit cash-flow hit. The reality is that using 80/20 loans are going to make it hard to cash-flow "a lot". It's why so many people have a goal of something like "50 units". 50 units * $200/month in cash-flow = $10K per month. You can stomach a $10K roof or HVAC hit pretty easily with that. However, by the time you're there you're well past a "passive investment". It's also a very competitive time to get into real estate. People see a "good market" with values rising, low interest rates, and HGTV makes it look like everyone can make $40K on a 6 week flip. Not to mention you can't really get any return from other places to park your money like savings accounts or bonds. Long story short, there's no easy answer. But even a small portfolio with a more aggressive mortgage pay down strategy could be great in 15 years. Once that mortgage payment vanishes you really do "turn on the faucet". Then you can lament the marginal tax rates with no mortgage interest to write-off!
    18Reply
  • Diane G.
    CA · Member since 2016 · 1k+ posts · 1k+ votes
    9y

    @Philip Hy

    You asked a very valid question, and I think the answer depends on location....

    From where I live, Silicon Valley, I don't make much profit from the rents, the bulk of the profits come from appreciation... And we have close to 100% appreciation since 2008/2009 if you bought right....

    But I have just recently chatted with 2 friends, who bought in 2006/2007 in the "wrong" location, and have seen almost 0 appreciation for the 10 years holding period...They are in "evergreen" area of San Jose....One of them just sold and walked away with nothing really over 10 years... The other thinking about selling now, and again looking at 0 returns over 10 years...

    So, my conclusion - either you buy A location and wait for appreciation, or you buy C location at "value add" and profit from rent income....

    If you buy something with no appreciation and no SIGNIFICANT rental income, you are dead in the water....

    Lastly, even with my 100% gains, I can't really retire on them.... Still need a day job... Those gains only provide some mental freedom in that I don't have to kiss up to boss at work...

    28Reply
  • JD MartinBusiness Member
    Moderator
    Rock Star Extraordinaire · Northeast, TN · Member since 2015 · 10k+ posts · 16k+ votes
    9y

    The secret is buying the property right on the front end. If the house is 5 years from a new roof, that should have been part of your purchase plan. Those costs get deducted from what you pay for the property. A

    When we buy a SFH, it is generally deeply discounted and those costs are absorbed on the front end - new roof, new heating system, etc. When you cash out the property it should still have strong cash flow, and now your capital expense exposure is severely mitigated. If you are a DIY mom & pop landlord, you can also mitigate these expenses by absorbing the labor. Assuming you don't plan to to that, however, the cost of those items has to be factored into what you are paying for the home.

    Also: keep in mind that most capital expenses become cumulatively more expensive through lack of proper maintenance. Yes, an asphalt shingle roof will eventually wear out, but expensive roof repairs generally stem from not replacing the occasional shingle blow-off or failing to put $5 of roof sealant at flashing areas. This is true for virtually everything in a house. 

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    18Reply
  • Account Closed
    Investor · San Jose, CA · Member since 2012 · 2k+ posts · 3k+ votes
    9y

    Philip,

    Congrats on figuring this thing out. A lot of this game is all smoke and mirrors. The more I analyze, the more it doesn't make any sense to invest in non-appreciating markets because repairs, maintenance and cap-ex will catch up to you and your cash flow is all gone. Could this be the reason many properties in these markets get foreclosed multiple times during each downturn?

    Forced appreciation and growth markets are where the money is. Forced appreciation allows you to recycle your capital to build wealth while growth = rent increase and equity increase. For every $500/month increase in NOI on forced appreciation, it's equivalent to $100k in equity in MY market. $50/month rent increase on a 10-unit bldg = $100k in gained equity. So it takes over 15 years of cash flow to get $100k in equity in non-appreciating markets.

    Imagine you buy one 10-unit building and force appreciate $5k/month in NOI? How many of these deals do you need to do per year to make a comfortable living? Isn't this better than working a W2? Ironically, CA is a great place to invest long-term thanks to Prop 13. While our rent growth and appreciation have been averaging about 6% annually for the last 45 years, our property taxes go up at 2% annually. Buying assets below market value also keep our property taxes low for years and decades to come too.

    If you look at all the posts from newbies on BP, they all want cash flow. Until they can change their mindset, they'll learn it the hard way. One has to build his wealth first, and the wealth will generate the cash flow for decades to come. Appreciation markets are what offer us this opportunity. Of course, this is only one man's opinion. Please take it with two grains of salt.

    36Reply
  • James MasottiPro Member
    Rental Property Investor · Washington Township, NJ · Member since 2015 · 1k+ posts · 976 votes
    9y

    @Philip Hy - You need to factor all of that into your acquisition. It's the biggest mistake that new "investors" make. They think because rents are higher than the mortgage (or worse yet simply cover their mortgage, tax, insurance) that they are investing. 

    Here's a sample breakdown on one of my properties

    Rent: $1100

    Mortgage: -$437

    Taxes: -$96

    Insurance: $-61 (I'm currently overpaying on insurance and shopping for a new agent. This should get cut in half at that point)

    Property Management: -$99

    Repairs/Maintenance: -$88

    CapEx: -$88

    Vacancy: -$88

    Net Total Cashflow: $143

    These are monthly numbers obviously and don't even take into account other business related expenses such as paying my CPA and Attorney or any marketing expenses I have to acquire properties.

    So...in order to live off my cashflow I would need to either have ~25 of these houses (my wife would still work...if we both stopped working I'd need closer to 60 properties since I'd have to pay for health insurance and things like that) - Alternatively though if you just focus on paying off a handful of houses so that instead of $143 a month I can add to that the mortgage payment then I'm cashflowing at $580 a month...and I would only need to have 11-12 properties to accomplish the same thing. 

    Hopefully that all made sense. Chad Carson had an awesome Blog Post recently about why bigger isn't always better. It's definitely worth a read

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    15Reply
  • Joe SplitrockPro Member
    Moderator
    Rental Property Investor · Sioux Falls, SD · Member since 2015 · 9k+ posts · 18k+ votes
    9y

    @Philip Hy no matter what type of property you buy, you need to take into account capital expenditures (capex). Roofs, water heaters, HVAC, paint, flooring, etc. all have a life span. I know about how long everything should last, but sometimes they last longer or not as long. When I purchase a property, I calculate those expenses to figure out the true cost of the property. As @JD Martin pointed out, you need to include those costs on the front end, when you purchase. 

    The second part of this is budgeting and saving for those capex needs. Lets say you owned that property for five years and have been profiting $300 per month. Then you need to replace a roof that costs $10,000. You are saying it will wipe out cash flow for 2.5 years. Look at this another way. Imagine for those 5 years that you were putting aside $150 of the $300 for capex. After five years, you would have $9000 in the bank. Almost enough money for the entire roof! If you are continually budgeting and spending capex, then it just becomes part of the expense of running your business.

    Remember that capex also reduces your taxable income. Effectively you are getting a discount on the updates at your tax rate. Lets say you are in the 28% tax bracket, then you are actually paying $7200 for that roof. 

    I have had 30 year old furnaces that an inspector said could die tomorrow or last five years. In one case the furnace died three months after closing and in another it lasted 8 years. Lesson learned is when someone says you could get more time out of something, assume you cannot. Any up side is then bonus rather than expected. 

    Whatever you do, don't ignore capital improvements. This can cause a property to run into horrible disrepair and you may not be able to cover the cost in the end. Also consider that neglecting properties will cause your property to attract progressively worse tenants and under market rents.

    @JD Martin

    16Reply
  • Vijaianand Thirunageswaram
    Real Estate Broker/Owner & Property Manager · Sugar Land, TX · Member since 2013 · 660 posts · 459 votes
    9y

    @Philip Hy. You asked right and well thought out question. With property tax increasing every year and not real appreciation like East & West Coast, it's not good sign for any Texans owning the investment property unless you do it right way. 

    @Joe Splitrock explained it really well with numbers. You have to put CapEx in your calculation which should help out in long run both management wise and tax aspect as well. Also you should front load the property and get all important done when you purchase it or rehab it. That way you are not spending every month on the handyman to fix on things and trip charges will eat up as well.

    4Reply
  • Philip Hy
    OP
    Rental Property Investor · Plano, TX · Member since 2015 · 59 posts · 41 votes
    9y

    Wow, BP community really came through for me. Too many great comments to call them out individually. @Linda S. your last comment cracked me up; it recalled all those times I fantasized about an Office Space moment.

    Sometimes I can't find people that care about real estate, who get a glazed look when I want to talk about it. Hearing all the different points of view really helped me get a handle of what situation I'm in (as always...you don't know what you don't know). Glad that I have a firm understanding of the "reality". 

    7Reply
  • Jason Hirko
    Lender · San Antonio, TX · Member since 2016 · 1k+ posts · 1k+ votes
    9y

    @Philip Hy I think your real question is do SFRs make real cashflow... I don't think they do, for all the points you said. I certainly couldn't live off the cashflow from my SFRs and I have quite a few. However, if you are properly leveraged and still cashflow positive, you are making money from your SFRs as you will eventually own them outright thanks to your renters. Never confuse cashflow with income. But equity doesn't buy groceries. 

    11Reply
  • Steve Kontos
    Investor · Great Neck, NY · Member since 2016 · 679 posts · 467 votes
    9y

    @Philip Hy

    I am going to agree that multi-family property investing is a much better game in regards to cash flow.  I can attest for that as I have been doing it for over a decade now and live off of my monthly cash flow.

    3Reply
  • Anthony GaydenPro Member
    Rental Property Investor · Omaha, NE · Member since 2014 · 2k+ posts · 3k+ votes
    9y

    I paid over $5000 for repairs last year for one of my properties. After I paid mortgage, taxes, and insurance, that wiped out a good portion of my profit. What isn't mentioned is that I had several thousand in debt pay down, quite a bit of appreciation, and tax benefits worth thousands. 

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    8Reply
  • Philip Hy
    OP
    Rental Property Investor · Plano, TX · Member since 2015 · 59 posts · 41 votes
    9y

    @Anthony Gayden That was almost my same situation at my very first property. Thankfully appreciation was high.

    0Reply
  • Bill Henley
    Investor · Berkeley, CA · Member since 2016 · 45 posts · 43 votes
    9y

    I find the Kathy Fettke/Real Wealth Network ten-house formula persuasive. Essentially the young investor buys single family homes in serial fashion and concentrates on paying off one mortgage at a time. At the end of 20 or 30 years you own ten houses debt free. For a young person this seems like a foolproof path to early retirement and lasting wealth, provided you follow all the rules of good investing along the way. 

    7Reply
  • Dan Bryskin
    Investor · Minneapolis, MN · Member since 2015 · 252 posts · 263 votes
    9y

    @Philip Hy

    Here is your big picture answer :) It is capitalism man. Ether you work for money or capital works for you. If you want to live off the capital, you need to have it in the 1st place. Question is how are you going to get there.  Everybody is looking for "passive income portfolio" purchased with bank money, managed by professionals. Say you invest in stocks. You contribute x, and in 30 years you got a cool 1,000,000. Fantastic. In about 3,000 years you will become Warren Buffet. That's your 100 or 300 a door. It is a better / faster  way to accumulate wealth then stock market let's say. But unless you build a well run, well capitalized business, you are looking at living from the cash flow once your houses are payed off. Please let me know if you find an easier way :)

    2Reply
  • Pedro Martins
    Rental Property Investor · Louisville, KY · Member since 2016 · 48 posts · 55 votes
    9y

    @Philip Hy, as was already mentioned, you really need to include capex in your initial calculations - so when looking at a deal aim at the real cashflow number after replacing the roofs and furnaces...

    @Joe Splitrock, Can you elaborate on your comment about capex reducing taxable income? I don't believe that is correct. you earn it and pay taxes on it. then when you spend it you depreciate it, you can't expense it, so I don't see how you pay less for the items...

    1Reply
  • Account Closed
    Investor · Allentown, PA · Member since 2015 · 101 posts · 69 votes
    9y

    Phillip- my concern after reading your question is your lack of awareness of the actual current financial status of your holdings.  You will never know if you are actually making money unless you track your income/expenses per property (I use Rentec). You should know, to the dollar, what your cash flow is for each property at any time during the year.  If one of your properties is misbehaving, financially speaking, the numbers will tell the tale.  As the pattern becomes clear that you have a stinker in the group (sometimes a unit just doesn't perform for one reason, or several), you can shed that unit and move on.

      If you are going to succeed at this game, 

     "I currently make about 550 cash flow per property, but after you figure maintenance/repairs, it's probably 300 per month per unit" 

     will not cut it.

    4Reply
  • Ben Leybovich
    Rental Property Investor · Phoenix/Lima, Arizona/OH · Member since 2012 · 4k+ posts · 4k+ votes
    9y

    Haven't you read any of the hundreds of articles I've written for the blog :)

    @Philip Hy - you are onto something lol

    5Reply
  • Philip Hy
    OP
    Rental Property Investor · Plano, TX · Member since 2015 · 59 posts · 41 votes
    9y

    RJ, you have a point that I should know it better, but I'm not oblivious to the financials. I will look into rentec. Good suggestion.

    @Ben Leybovich you're on my to-read list ;) So much great material, but only so many hours in a day.

    1Reply
  • Glenn R.
    Cornelius, NC · Member since 2016 · 104 posts · 51 votes
    9y

    Mainly just a "lurking newbie" here, but I noticed so many replies that mentioned new roofs being such a major expense.  I'm curious why so many people choose asphalt shingles for roofing?  I'm a DIYer and live in a place where metal roofs are popular, so that's what I've used on my homes.  Metal last 50+ years, is very light weight, and is very quick & easy to install.  Each section is 3 feet wide, and is cut to any length you need (up to 40' long).  It screws down with a cordless drill.  It's available in dozens of colors, including light energy efficient colors.

    I recently removed 2 layers of shingles & then replaced it with a nice bronze color metal roof on our lake house.  It was a lot more work removing & hauling away the old shingles, than installing the new metal.  I think it took 3+ days removing the old, and less than a day installing the new.  

    I think I paid about $3000 for materials & got bids for $7500-$9200, for approx 2400 sq ft.  I wish I'd paid to have it removed & hauled away, because that's brutal work.  Installing the metal is a joy, because it's so quick & easy.  Knowing you have a 50 year roof is a great feeling.  

    10Reply
  • Dawn AnastasiPro Member
    Rental Property Investor · Milwaukee, WI · Member since 2013 · 6k+ posts · 4k+ votes
    9y

    To me, net cash flow does not include any expenses OR repairs/capital expenditures (roof, etc).  So yes, I do live off my net cash flow.  Money is set aside for these items and a plan is put in place for maintenance and upgrades along the way.  The concept of "upgrading along the way" is important.  If you completely renovate a place, then don't expect to do anything with the house over the next 20-30 years, then in 20-30 years you're going to have an obsolete asset.

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    6Reply
  • Reaz H.
    Rental Property Investor · Raleigh, NC · Member since 2016 · 49 posts · 15 votes
    9y

    @Philip Hy Ah the Taxes of Texas! I don't miss that part about living in Texas. The high rate often made it hard to cashflow unless you were in certain areas. But to address your concerns, it's always a good thing to consider a strategy for why you do what you do. Also important is an exit strategy for each property so that you move closer to your goals. And it seems you're giving it some serious thought. It's actually quite hard to retire off of just 10 SFR rental units. And you can continue upgrading to more pricy units but at the end of the day you're going to rely on appreciation and equity pay off and a small cashflow per unit. Which means you'll have to sell your properties to realize some of the gains.

    I too thought of starting out with SFR and felt the same. So my end goal is to own apartment buildings or just apartment complexes. I think the economies of scale are better in those and one can actually retire by owning a few. So I started off with 4 unit MFH and plan to add a few more to my portfolio in the coming years. My goal is to build the business processes as I go along to do these as passively as possible with an assistant or two as needed. Currently, I self manage. And at some point I may consider trading up to a 20-50 unit apartment complex with the same assistants/staff. And that's when things should get interesting. :)

    1Reply
  • Diane G.
    CA · Member since 2016 · 1k+ posts · 1k+ votes
    9y

    @Philip Hy

    In all seriousness, having that partial mental freedom is BIG....Huge.... I still have to do some kissing up, just not as enthusistically as coworkers....

    4Reply
  • Franco Li
    Vendor · New York, NY · Member since 2017 · 217 posts · 88 votes
    9y

    So I invest in a lot of SFRs on the east coast. I can tell you that if you want to retire and live relying passive cash flow, this strategy is not for you. I invest through this medium because I want to make extra income (be my own boss as well) but I am an active investor. My investment horizon is short - usually 5 years - then I sell and turn my capital over. This way I do avoid major expenses on the home. In conclusion, I do not think there is really such a thing as sitting back and cashing in the rental checks. There is definitely a steady stream of hard work that comes into play. And to be honest, that is what makes this all so fun!

    5Reply
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