When it comes to condo investing, cash flow is one of the hottest topics out there. Every investor is very familiar with this term, and if you’re thinking about getting into the market, you should be too. While it’s important to know if the property you’re thinking of buying will provide positive cash flow or not, the answer to this question won’t necessarily determine whether purchasing it is a wise decision. Real estate investing isn’t cut and dry, which is why it’s so important to understand the basics and tailor them to your situation.
How to Determine Monthly Cash Flow
The monthly cash flow is determined by the expenses and the income on a rental property. If the income you receive from a property is greater than what you have to pay in expenses for the property, you will pocket cash every month. This is referred to as “positive cash flow.” If the expenses equate to an amount larger than the income you are collecting, however, then you’re going to be in a “negative cash flow” situation.
So, what if the number that shows up is telling you that you can expect a negative monthly cash flow on the property, which specifically means you will be paying out of pocket every month on your investment? Is there ever a time that this could still lead to a profitable rental property? The answer in short, is YES.
What is a cash-flow negative property?
Let’s start with the basics, for all of the first-time investors. Cash flow is a fancy word for a simple concept. It refers to the income you generate from your rental property, minus the costs of maintaining it. Sometimes these expenses—such as mortgage payments, property taxes, and ongoing repairs—are higher than the money that comes in through rent. When this happens, the condo is said to be cash-flow negative.
Risks and rewards
The rewards associated with cash-flow positive condos are clear. They put extra money in your pocket each month. The benefits of buying a unit with negative cash flow are less obvious—and it comes with some risks. If market conditions don’t go your way, you may never see the kind of returns you’re hoping for. And if you lose a separate source of income (due to a job layoff or because another investment takes a nosedive), the costs of maintaining the property could lead to financial strain.
That said, there are a couple of big reasons why some investors are willing to take on the risks of a cash-flow negative property. Namely: impressive sale profits or a fantastic rental income down the line.
While it’s true that nobody knows exactly what’s going to happen in the Toronto market, educated guesses can sometimes pay off. Using factors like historical appreciation rates and projected neighbourhood price growth, investors can estimate how much their cash-flow negative condo will be worth in a few years. Of course, it’s important to note that this is speculating—and it can be risky. That said, if you see a strong possibility for future capital growth (and interest rates aren’t slated to rise), you could be looking at a great investment.
If your end goal is to make money by renting out your unit, there are other factors you’ll want to look at. What’s the local rental market like? How much are landlords charging for condos in nearby buildings like yours? Is there strong job growth in the area? Is the community becoming a popular “it” destination? If you can accurately assess the situation, you’ll make a wiser (and more potentially profitable) investment.
Pre-Construction Condo Buying & Negative Cash Flow
Let’s say you find a pre-construction project that you’re interested in, that’s located in a hot neighbourhood. Not only is the location great, but it boasts fantastic features and amenities. There’s only one issue: it’s projected to be cash-flow negative. When you’re trying to decide whether or not to buy it, consider this. Every real estate investment comes with some risk.
Right now, you’ll find a lot of projected cash-flow negative properties in prime locations. Liberty Village for example. Liberty Market Tower, to be even more specific. Is purchasing a unit in an area like that really a bigger risk than buying one with positive cash flow in the middle of nowhere? Many investors don’t think so. They’re snapping up good pre-construction units the minute they’re available, with the expectation that rents will rise (perhaps slowly) while mortgage rates stay the same. And think about the appreciation in value – THAT’s the key here.
A Real Life Example – Liberty Market Tower
A client recently was reviewing the projected numbers on an investment property at Liberty Market Tower and was concerned about cash flow. With the scenarios I ran, and projections I provided, the 1-bedroom unit would run about $100.00 into the negative per month. That would be alarming for anyone, as each year the condo would cost you an extra $1,200.00.
We reviewed the numbers together and went through many options. But what it all comes down to is appreciation in value year over year. Will this incredible 1-bedroom condo in Liberty Village appreciate in value enough to make this a sound investment? The answer is YES, and here are the reasons:
- The increase in value will far outweigh the yearly losses – approximately 10% annualized appreciation in value*
*on average over the past five years, condos in Liberty Village have appreciated 13.4%/year.
- Rental income will help pay down your mortgage each month
- Liberty Village is a hot condo neighbourhood with rentals lasting only a few days on the market.
Purchasing an investment property—whether it’s cash-flow negative or not—isn’t a step to be taken lightly. The first thing you’ll want to do is seek out advice from trustworthy financial and real estate professionals. Look at actual properties and ask for case studies of clients who were successful. Education is key and working with a seasoned Realtor with financial knowledge can help you make a sound decision and get you into the market where there is still money to be made.
If you’d like to see a few scenarios that could work for you, simply fill out the form below and we’ll get in touch right away.