Transcription
Everyday Australians are feeling more confused than ever. Investing in property has always been their go-to. But right now, there's so many questions. What about cash flow? What about taxes? What about trusts? And if you landed here on this episode, then you probably want answers, not some sugar-coated nonsense that worked 10 years ago, but real insights that work right now. And after helping clients buy over 2,400 properties across six states and all different kinds of starting positions, we're here today to break down all the top concerns you've been having live off the cuff. Very little prep, no BS. Uh, if there's a topic that we miss, leave a comment below, but let's get into it. I'm going to start with the word on every investor's mind these days, which is cash flow.
>> Yes.
>> Goose, what would you say to someone who's thinking about investing right now? They're worried about negative cash flow and how much negative cash flow should people realistically expect in this market?
>> Uh, well, let's unpack a few. Let's just talk, let's talk around it, and then see if we can cover off as many questions as you've got on cash flow.
>> Sure.
>> So, once upon a time, in fact, if we go back to the start when we started Dash in 2019, we had, we had this, uh, our strategy was the holy trinity. Cash flow positive properties in high growth areas with value add potential. Now, uh, that was great. That was all well and good. Uh, interest rates were lower, yields were higher, cash flow was more, uh, freely available if you knew where to find it, and you could get, um, good growth and good, uh, good cash flow. Now, the fact of the matter is, in over the last few years, in fact, when was it, 2022, maybe, we, we recorded a podcast episode, uh, 'is cash flow dead?' or, you know, 'the death of cash flow.' So, we were talking about it three years ago, the fact that cash flow is going to become less of an available, uh, you know, commodity, option, whatever, in the market. Now, just to be clear, uh, if somebody wanted to, if somebody asked me to find them a cash flow positive property, I could probably find them one like within, I don't know, 20 minutes, right? It doesn't mean that it would be a good property, right? So, a good investment is not going to be defined by whether or not it has positive or negative cash flow.
>> Positive or negative cash flow is an attribute of the property, but, or attribute of the, an attribute of the, you know, the performance aspects of the property. But it is not the defining characteristic. And I think that if anyone is, uh, building a strategy today that is specifically geared around, uh, cash flow, then they're, they're pro, they're, they're probably making a long-term mistake.
Now, cash flow is good in the context that it can assist with borrowing, but all yield, so all income that is derived on any property, whether or not it results in positive cash flow or negative cash flow, is supportive of additional borrowing capacity. So, if you have a property that, um, has a gross rental income of $30,000 a year and is negative cash flow by five grand a year, or is positive cash flow by, you know, five grand a year, really what the banks are going to be looking at is the $30,000 of gross income. Now, your ability to be able to support a portfolio that has negative cash flow is where things get a little bit more challenging, because, of course, if every property was cash positive and you had no holding cost that you needed to be able to support with a property, then, you know, that's great. Like, you could own 10 of them, and if they're all cash flow positive, it's not going to hit your hit pocket on a week-to-week, day-to-day, month-to-month basis. So, you don't really need to think about like, well, how does my savings rate contribute to that? Now, just to kind of, uh, put some lines around this, uh, well, let me decide which direction I want to go. So, the challenge, the challenge with that, is, uh, of course, borrowing. Right now, we've, we've covered, we've had, we've covered an episode in the past. I think it was called cash flow jiu-jitsu, which I highly recommend you checking out, because the fact of the matter is, you're going to make more money through growth than you will through cash flow. Now, the end state, now let me be very, very, very clear. You can build a property portfolio that gets you to an end state of passive income. You can do that. However, in the first instance, as you're developing your portfolio, that is almost certainly not going to be the right move. Now, there are lots of people who've talked about building property portfolios, 10 property portfolios, 20 property portfolios, 50 property portfolios, 100 property portfolios, you know, and they've got all of this cash flow and all of that kind of stuff. But they built those portfolios in the past. It is, even, and by the way, even if, and I'm thinking of someone, uh, specific, who is still continuing to use the same strategy they used in the past to continue to expand their portfolio, uh, which is effectively buying, uh, cheap properties, like, so maybe like one-bedroom units and stuff like that, which basically have a really good deal, buy a cheap unit, do a renovation, capture the equity spread, uh, and go again. They're still doing that and adding to their portfolio and adding to their cash flow, but the thing is, they've got, I don't want to say the number, but it's, uh, let's just say it's up around 100, uh, properties. And so the difference is, they've got, you know, let's call it north of 75 properties. So, they actually have a very different capital base and a very different cash flow structure to someone who is starting with one or two, right? So, you can't look at a billionaire and ask, 'How are they investing and how are they spending their money?' and then just apply that to yourself, because it might be, might be the wrong frame.
>> Mhm.
Now, again, I will come back to the point that I made a second ago, that, um, there is not necessarily an inverse correlation between yields and growth. Lower yields don't mean more growth. Higher yields don't mean less growth.
>> But the point here is that if you optimize for the wrong thing, you can create, you can get the wrong outcome. If what you, if you, what you are saying is, 'I want, um, I want a passive income from property,' and if that is what you are trying to establish from the get-go, you almost certainly will not end up creating a passive income from property, because you won't build enough of a capital base for the relative net yield to make sense to be able to cover your income and expenses. So, the objective, in the first instance, is to grow your capital base. That's number one. Now, you should grow it to the, and you should grow it with the constraint of how much you can contribute to your property portfolio. And this is where the negative cash flow conversation comes in, because it's like, 'Okay, well, how much negative cash flow should I expect? How much negative cash flow can I afford? How do I think about this?' So, if we accept that in today's environment, uh, almost certainly any property you—any property that is worth buying right now, let me just say that—is almost certainly going to have negative cash flow. So, how do you rec, how, how do we reconcile that? Well, there's a couple of ways here, and I hope you don't mind, Gabby, that I'm just, um, I'm on one a bit with this topic. So, but if you feel you need to get a word in edgeways, let me know.
>> There's a, there's a couple of ways to think about this. So, number one is, how much of your income are you willing to put towards your investments?
>> Now, for some people it's 5%. Some people it's 10%, some people it's 20%, some people it's 30%. And ultimately, you need to decide what is right for you. But, uh, and we sort of touched on this, uh, a little bit in a couple of episodes ago, because, um, uh, there's a great question here from, uh, from Charlie. 'How much negative negative car is too risky?' Great. We'll get to that. Uh, the big question is, if you, knowing what you know about your environment, knowing how, what, what you know about how hard it is to get ahead and how it's getting harder to get ahead, how much of your present capital should you allocate to your future self? Now, we sort of touched on this on an episode a little while ago. We were kicking a can around, and I sort of suggested like 30-ish%. Um, but I actually think it should probably be closer to 50%. Now, a lot of people are going to freak out. They're like, 'But I've got kids. We've got a mortgage. We've got this big house. We've got all this kind of stuff. I like to buy organic freaking whatever.' Like, great. All, all good. And don't let me tell you how to live your life, but just recognize that every single one of those choices is, uh, you're choosing that over your future prosperity. So, and to the extent that you can control your living expenses, is the extent to which you can control your ability to invest in your future self. So, if you're earning $100,000 a year and you're like, 'Yeah, I know, but I've got a good life, and, you know, I've got a, I rent a nice car, and I do this. I like to go out with my friends and whatever.' And you're saving 5% a year. It's like, 'Cool.' I mean, like, that's all well and good. But your choices of lifestyle—you like to live in Bondi, or, I don't know, whatever, right?—any of these things, those choices, those lifestyle choices, are inhibiting your ability to build your future life. Now, typically when, when, and this is sort of, sort of when people come to Dashtop, typically when people come to Dashot, their average savings rate is around $1,500 to $2,000 a month-ish. Um, uh, some great stuff in there from Charlie, uh, Charlie in the chat as well. So, the math says, for 50%, 10 years will get you financially free. That's, that's great. I need to dig into that a little bit further, but the average savings rate for when people come into Dasha is around 1,500 bucks to 2,000 now. Uh, and that's a month, and that's per month. And that's typically for a... So, you know, we'll call that, um, what's 1500 times 12? Public math. Don't do it. $18,000 to $25,000, uh, $18,000 to $24,000 a year, roughly. Uh, and that is all good.
>> Mhm.
Um, but I would, I would posit that if those people really thought about how important their future was versus their present-day comforts, that they could probably, if they wanted to, increase that. Now, that would require sacrifice, and people don't like to hear about sacrifice. They don't like to hear; everyone wants everything. They want everything. They want to be able to drive the nice car, eat the organic food, go out for dinners, uh, send the kids to private school, and live in a nice suburb, have a big house, have a pool, and also become financially free in the next 5 years. And unless you're earning squillions of dollars, I'm sorry to tell you that that's probably not, like, it's not practical. What you actually want to do is you actually want to think, think about how important is that future that you're trying to create, and what are you willing to do to get there, noting that the world is changing at a very rapid pace. And I would suggest now more than ever, like, if this was 20 years ago, and we just assumed that the next 40 years were going to be the same, all right, cool, like, mosey on, take a bit of time, creep into it, you know, it can take you 20 years, and that's okay. Reality, the fact of the matter is, you don't have 20 years. That's just, that's just that. So, you know, I think that people need to make serious considerations around to what extent they're prepared to compromise on luxuries. And, by the way, there was some really great comment from someone in the, uh, in the investor lab community, um, talking about how to, what they could do to maximize their borrowing capacity. And they said they were willing—one of their options was that they were willing to move back with their parents—right now. Not that many adults turn around and say, 'I'm willing to move back with my parents because it's going to, it's going to massively enhance my ability to create financial freedom for myself at a faster pace.' And, by the way, that move is probably the biggest possible move they can make in terms of, you know, maximizing borrowing power, doing all of this kind of stuff. So, you know, everyone gets a little bit freaked out by negative cash flow because they're like, 'Oh, but, but, but it just feels like I'm just going to have a bill every single month.' That is not necessarily true, right? So, so there's one part of it: is the sacrifice, like, how much can you afford? I'll come back, I'll come back to the point I was about to make: is how much can you afford? What portion of your income are you prepared to put towards your investments? Now, one of the ways to think about negative cash flow is it's a holding cost. Everyone thinks it's like, 'Oh, it's dead money.' It's, uh, I don't know, no, it's just like an operating cost. Now, uh, I did some, uh, calculations, and I can share my screen, but it might be a little bit too spread-sheety. But if you bought a $600,000 property in Victoria—and I'm using Victoria in this case, because Victoria's got, like, it's expensive. It's expensive, right? So, if you bought a $600,000 property in Victoria, and it had a 4% yield, and you had an 88% LTV loan with a 6.25% two 5% interest rate. Uh, your, and assuming a whole bunch of standard operating costs—so property management, building insurance, council rates, blah blah blah, all of that kind of stuff. Your average negative cash flow over, uh, the first three years would be $18,655, okay? Per year. So, if we take that and we just round it up to $19,000. So, 19,000 divided by 600,000, right, is a 3.1%, uh, operating cost, which is actually really not that bad when you think about it. So, you've got this property is worth $600,000. The mortgage on that, the cost of capital on that property, is 6.25%. Plus, you've got all these other operating costs, uh, on the, on the property. You've got property management and rates and water, and your actual net operating cost is actually only 3.16%. But your return on invested capital, if you invest well, could be 20, 30, 40, 50, 60, 70, 80, or more over that same 12-month period, depending on how you structure your loans. And so, so think, shifting our mindset about how we think about what this, what this cost is, right? That is the cost that is going to allow you to create hundreds of thousands of dollars. Would you, would you spend $19,000 in holding costs to create a 100,000 or 200,000 or 300,000? Almost certainly. That's a bloody good bet. And, you know, the reality is, if you are buying the right property in the right place at the right time, you're going to significantly increase your wealth. Now, uh, well, where do you want to go with this next, before I just kind of keep doing? Where do you think I have a... because there's like, there's a million ways I can go with this. I can go into actual details around how much negative cash flow to expect and stuff. I can... Where do you want to go with this?
>> Yeah, in a minute we can get to that.
>> You go. Oh, I don't want to interrupt the thought. Where did you go?
>> Yeah. Yeah. So, so one of the, one of the considerations here as well, sorry, I just want to talk about this. So, let's just say, um, let's just say that the operating cost of a $600,000 property, just for the point of this discussion, and we can...
>> Let me know in the chat, or Gabby, you let me know if we want to compare what it would be: interest only versus principal and interest, what would we be if we used equity or not, because I think, actually, they're useful things that we should do. Um, uh, what I want—I'm getting distracted by the chat. What I wanted to say was, um, let's just say that the property is $19,000, uh, a year on average, negative cash flow. So, divide that by 12 months. That's 15—that's $1,583, right?
>> $1,583 a month. Let's call it $1,600 bucks a month. Cool.
>> So, let's say your savings rate is $2,000 a month, maybe even $2,500 bucks a month. Uh, doesn't take a genius to work out that 2 * 1,600 is quickly public math: 3,200. I know. So, uh, so, so, you know, very quickly you'll be like, 'Well, so what? I can only just buy one property, and then what? I'm tapped out.' And this is, this is where we have to think about getting creative,
>> right? There is no, there is no, uh, there is no free ride in building wealth.
>> There is no, you know, there's no golden ticket where you just sit back and do nothing.
>> The requirement is that you, that you need to lean in, and you need to be prepared to get creative. If you need to get creative about your expenses, you need to get creative around how you think about structuring your, um, capital cost. Where is money going to come from? Uh, and in, let's say, in this instance, you're buying a, uh, buying a $600,000 property. The cost, the capital cost, how much money you would need in order to be able to buy that property, it's about $150,000. Once you factor in all of the expenses and all of this kind of stuff, and again, I have a spreadsheet. I could walk through those numbers. Let's call it 150 grand. Let's say, um, that you've got 180 grand. Well, you could take the balance of that 30, you could stick that into an offset, and that's going to cover, that's going to cover the first nearly two years, uh, worth of, uh, negative cash flow straight out of the gate. If you then add your savings rate to that, that's going to cover that off. Plus, then when you have growth in the property, you can then refinance equity out of the property. And we covered all this in the cash flow jiu-jitsu episode, which I really, really, really, really highly recommend you check out if you're concerned about cash flow and how to manage it, because it is a very important thing. But, like, if you just look at on a very binary basis of like, 'Well, I'm saving $2,000 a month, and you're telling me it's going to cost me 1,500 bucks or 1,600 bucks a month to hold this property so that I can only buy one house.' I would just challenge you that you're not getting, you're not thinking about this creatively enough, because there are many ways that we can think about capital allocation, capital rotation, and capital movement in a portfolio to keep a portfolio going. That is, and that is essential, 'cause if you think that building a property portfolio is like playing with Lego. You just take one block and you stick it on another block, and you just keep it. It is not like that at all. Right? It is like, it's a, it's like a game of Go. Like, you need to be creative in how you think about your moves and what are you going to do to get to your end objective. Um, I just wanted to point that out because a lot of people get really stuck on this idea of like, 'Well, if it's, if it's this, and I can save that, then that means that.' It's like, no, no, no, no. There is, you just need to, you just need to...
>> Yeah.
>> Be willing to go the extra mile, or work with a team like Dash who can help you to do that, because, you know, building a property portfolio was once, once upon a time, was a lot easier than it is today. In fact, two years ago—I think maybe even last year, actually—I calculated that on average it's getting 12.4% 4% harder every single year to get into the property market, to build wealth in property, to do all that kind of stuff. So, you know, if you reverse that back, that means it was twice as easy, um, six, six, seven years ago, right? It was twice as easy six, six-ish years ago. Before that, it was twice as easy again before that, right? So, it's four, was four times, well, four, anyway, uh, easier. So, it is getting harder, but that doesn't mean it's impossible. And I would also challenge you to find a better asset class to build wealth in. So, I know we're spending a disproportionate amount of time on cash. We may, we, Gabby, we might only cover the cash flow questions in this episode.
>> Maybe, maybe we're half an hour in, so potentially.
>> Well, I mean, that's good, because it means there's some other really good stuff that we can cover in next week as well. So,
>> That's true. That's true. Uh, I want to circle back to the negative cash flow amount in a second. I just wanted to kind of zoom out, I guess, and give context of like how we got here. So, we think about a lot of people think with this mindset of like, 'It must be cash flow positive,' or, 'You know, I can't possibly invest in real estate unless it's generating me cash flow, otherwise what's the point?' kind of this mindset, I think, particularly...
>> From external, potentially either influence from previous generations, parents, uncles, whatever, neighbors that are older, influencing this mindset, or maybe you bought a property a few years ago and that was cash flow positive, so now you have this expectation of like, 'That was a lot easier if it was just self-funding. I just want that again. Can I just have that again?'
>> So, there's that kind of story. But then again, context of like the property investment space online as well. And what we're—people are exposed to these days—is a lot of companies have started over the last few years. And people transparently kind of compete for attention online. They're trying to grab attention. They're trying to make promises online. A lot of that comes down to these days because people do want cash flow. It's a thing that people really want. So, they respond to that in the market. Um, or they respond to very flashy lifestyle stuff, and people—you make a connection between, 'Okay, I have this fast car, and that means that I do this thing that they say I do, and then I get the fast car, and then that's, that's all connected.' Um, but the game that people are playing in terms of these businesses is trying to capture your attention, and it doesn't necessarily mean that they're buying, helping you to buy the right asset for your particular portfolio. So, even if they're running ads which might be about like, 'Get 6% yield,' or, 'Get cash flow positive,' or, 'Get high yield,' or whatever, as Goose just kind of like dug into, the asset type is probably not the best asset type available for you right now.
>> Yeah.
It depends on where you're at in your portfolio. For some people, yes. But for the majority of people, it's like, 'Don't just go chasing for that yield asset, because it may not have the right fundamentals, because they're just going, "Okay, your interest rate is X. That means you need to get this, this particular yield. Okay, where are we going to find that yield?"' And they go chasing for that particular yield. And they find it, maybe, and they grab it for you, despite the underlying fundamentals might not be there for that location or that asset type and everything. So, it's just context of why you might be having that mindset. Um, because a lot of this noise comes in online at us there these days.
>> Yeah. Totally right. And I would also say as well, there's a lot of, um, developers and stuff out there that offer rental guarantees. So, they'll be like, 'You know, buy this property, and we'll guarantee a certain yield, and maybe it's cash positive for the first two years,' or whatever. That, it, you're paying for that. Like, if, if they're offering you a rental guarantee, they're not, they're not, they're not, uh, you know, they're not altruistic. They've worked that into the purchase price. So, you buy a property from them, they take some of the money that you've given them, and then they give it back.
>> You're prepaying your own rental gu.
>> You've paid. Yeah. You've, you've rent, you paid rent for two years, is basically what's happened, right? It's, it's wild, right? But can I get rental guarantee? It's like,
>> You paid for that. Like, it didn't come for free. Like, it's like it doesn't come from nowhere.
>> People don't know that. Yeah.
>> Okay.
>> Yes.
Um,
>> Yeah. So, no, no, but there's some good, there's some good questions coming through here in the chat as well. So, uh, uh, Lily B said, 'If you have equity, you can create cash flow almost instantly. The opposite is not true. Equity accumulation is king. Cash flow is only there to help you hold the properties.'
>> Lily B, I don't know who you are. I don't know who you are.
>> Welcome, but I, I salute you, because that is absolutely true. That is, and this is the thing that most—this is the thing that most people miss.
>> If you like, uh, now you can't spend equity at the shops, but you sure as hell can unlock it, right? You can unlock it through lending, you can unlock it through selling, you can unlock it through... And cash flow is just the receipt of cash at some point, right? So, you can have lumpy cash flow. Like, by the way, if you get, if you get paid a thousand bucks a week, that is still lumpy. Like, if you got paid a dollar a second, that is still lumpy, because for every half a second you're not getting any cash. Like, you're, you're, you have a cash flow vacuum. So, it's all about time scales, right? So, you might, you might receive large sums of capital at certain points in time, and then you manage that like cash flow, right? And so, if you have equity, you can create cash flow almost instantly by reallocating your capital and using capital wisely. But you can't, you, the opposite is not true, right? And so, and this is a point that I'll probably make several times. It looks like we're going to cover some of these questions over future episodes as well. The other things I want to cover,
>> If you buy the wrong property in the wrong place at the wrong time, because it's got some attribute that you think is important that it probably isn't. Maybe it's brand new and shiny, and it's, and it's versus some weatherboard thing that you might have seen somewhere else, or maybe it's got a 7% yield and it's in a brand new development or something like that. You could lose more money on that than you could by buying some old clapper with a lower yield in the right place. So, buying the right property in the right place at the right time is far more important than buying the property that has the attributes that you desire the most. Um, and there's another question, another comment in here, or question here from, uh, from Charlie: 'Is the game now buy till you can't carry anymore, then sell down?'
>> Yeah.
So, and, and it's, but there's, there's some very interesting and important nuance in that. So, you should maximally seek, uh, return on invested capital, which by proxy comes through growth. You should maximally seek return on invested capital. Uh, you should prioritize, assuming, assuming that you are 95% of people who are trying to build a property portfolio, and you don't already have a large property portfolio, or you don't already have a high net worth. If you're a high net worth individual or if you already have 10 properties, your situation is different. If you are like 95% of people and you're trying to work out how to get ahead, and you've got zero, one, or two properties or something like that, and you're, you're, if you're like 95% of people, then your number one priority should be how do you maximize your return on invested capital, which by proxy will come through growth, to the extent that you can afford it. Right? So, how can you, and so the, 'to the extent you can afford it' piece, is very, very important, because again, can you, can you compromise on some of your living expenses so you can afford to support more growth? Can you do that? Because if you're getting a 50 or 60% return on invested capital, it's pretty freaking good. You're not going to get that return on invested capital from, you know, buying the best brand of eggs versus the second best brand of eggs in the supermarket, right? You just won't.
>> Um, and then the question is, uh, how can you, how can you carry? Like, so then you've got to get creative with your finance strategies, capital allocation strategies. How do you use trust and structuring to effectively manage capital better? How do you leverage equity to create cash flow? How do you... like, there's a whole bunch of stuff, right? And we've done a bunch of episodes this year. So, as I mentioned, the cash flow jiu-jitsu one, the how to get a property portfolio to pay for itself. I think another one we did with Callum where we talked about, uh, cash flow management in the portfolio. So, there's a ton of ways you can do that at some point, right? Despite what people will tell you on the internet, because again, to your point, Gab, there's a lot of people out there who just really want to get your attention by talking about talking about cash flow and talking about yields. By the way, let, let me, uh, let me just make a point on that. I've seen people on the internet talking about yields which are not true. And I'll just say, I'll just say it plainly.
>> What they are doing is they're taking, um, the, the, let's say, let's say a client bought a property three years ago at whatever yield they bought it three years ago. Rents have gone up, and so now they're saying, 'Oh, they bought this property for 250,000 or 350,000.' But then they use today's rents to imply the yield.
>> They're like this: 'They bought this property for 350,000, and it's a 7% yield.'
>> It's like you can't go do that now. It's a 7% yield because the rents went up for two or three years. Clown.
>> So, that kind of [ __ ] happens, and you need to be very...
>> You need to be very careful of, of, of that. Um, so, pardon me. So, so to, to, so to that extent, yes, you want to maximize your return on invested capital to the degree that you can continue to afford it. And your ability to afford it is going to be dictated by how much capital you can allocate to your, to your portfolio. How can you, and then how creative can you get with your capital management strategies? At some point, despite what people on the internet will say, you will almost certainly—unless caveat, unless your income continues to increase—you will almost certainly find a limit somewhere in your portfolio. You will get to a point where, where the only options you have are wait, because waiting is an option, by the way. Like, waiting is a choice.
>> You might get to a point in your portfolio where you can't buy any more properties. It's not always going to be some thing where you can just constantly buy properties just because you want to. You may get to a point in your portfolio where you can't buy anything, because you've reached the outer edges based on current lending policies and current capital allocations and current yields and everything. You just might reach a point where you're like, 'All right, I'm stuck-ish.' Your options then are: wait, because rents will continue to go up. So, if you wait and the rents go up, then that may unlock more borrowing and may unlock more liquidity in your portfolio. Your income might go up. Lending policies may change. All kinds of stuff might happen. So, you may get to a point where you just need to wait for like a year or something like that, which is really not a big, a big deal, or you start to sell down, strategically sell down some assets. What we have, uh, observed is that, um, the optimal time to be in any market is probably going to be between three and five years. So, and that's not a, it's not an exact rule. So, maybe you're in a market for seven or whatever, but broadly it's between sort of three and five years. So, if you use the 5-year, uh, number, if you are like 95% of people, there's a decent chance that if you play hard and focus, you can grow your portfolio and add properties over a period of 5 years. Maybe it's two or three properties, maybe it's four or five properties over five years. Maybe it's more. And we've had clients that we've had, we've had clients that have bought far more than that. 10 properties in 5 years, uh, and even more. Um, so, it's definitely doable, but subject to your circumstances, of course. You may then get to that point at five years where you're like, 'Ah, I'm a little stuck now.' And, I, by the way, that might also be a great time to go back to property number one and ask yourself, 'Is now the right time to let go of that property, unlock the capital, unlock the debt?' Because remember, debt is an asset. So, you may, you may have a property that has that you might sell and sell for break even, because you've already refinanced equity out of it and all of that kind of stuff. In the process of selling, may not yield you a, um, an effective capital gain. You will still have the capital gain that you would have to pay in CGT, but you might not receive a large sum of cash from that, because you might have already harvested the equity out of it, which, by the way, just as a reminder, when you harvest equity out of a property, you're taking profits.
>> You're just taking, you're taking profits. That's what it is. You're taking profits and you're moving it to another asset. Um, so you may, you may sell a property, but then you may unlock—it might have three or $400,000 of debt, uh, associated with that property, which, if you sell the property, you get that three or4 $500,000 worth of debt back that you can then use. So, unlocking, uh, lazy debt is just as important as unlocking lazy equity as well. So, um, anyway, let's get back on track. What else we need to cover off?
>> Negative cash flow.
>> How much? What do you want to know?
>> How much? People want to know how much should be realistic in this market.
>> Okay. Do I have your permission to share a spreadsheet?
>> Is it an Apex report?
>> It's an Apex report.
>> Okay. I'll allow it.
>> Okay. Stand by, guys. Stand by, 'cause we're going to go.
>> Apologies if you're listening on Spotify or whatever, Apple.
>> Yeah. I mean, if you're listening on Spotify...
>> By the way, Gabby, do you want to join us on YouTube? I want to see if you can find the, um, the URL to get an Apex report, because maybe we can just tell people they can get their own as well.
>> Yes, I will not do that right now, but I'll put it in the show notes.
>> Okay.
>> Yep.
>> Okay, great. I'm sharing my screen now. So, I'm going to walk you through, uh, if you're watching this, I'm going to walk you through some numbers here. I'm going to make the screen a little bit bigger. Now, some of this stuff is going to be important, some of it's going to be not.
important. So, I'll just kind of highlight the important stuff.
In this example, we're going to pretend like we're buying a property in Berat in Victoria. By the way, that is not a buy recommendation by any stretch. Just happens to be just something I chucked in. I just picked a place in Victoria. So, that is not a recommendation for Bellerat in any way, shape, or form.
Um, let's assume that we're buying a $600,000 property with a 4% yield, which means it's going to be renting at $462. Let's assume that we've got an 88% LTV loan on an interest-only basis with an interest rate of 6.25% with the LMI capitalized into the loan. Uh, for the purposes of this, I've just assumed we got a million dollar borrowing capacity. It doesn't really matter. The loan amount, uh, now the total purchasing cost for this property, including all costs and expenses, including if you work with Dash Dot, that would include um, you know, our fees and everything like that, plus a maintenance allowance.
Now, some people get, "What do you need a maintenance allowance for? Should you just buy properties that don't need maintenance?" Yeah, cool. I mean, if you want to like rule out, I don't know, 85% of properties that are on the market and really reduce your potential to actually buy a good property. Sure. Uh, reasonably, you should assume that if you're buying an established property in an established neighborhood, there's probably going to be some maintenance that you need to do as part of buying a house. So, we factor that into the purchasing cost. We just assume that you're probably going to need to spend some money.
Now, that means that the total cash required is about $147,376. Let's call it 150 grand. All right, for the purposes of this. So, it's going to require $150,000 upfront capital. Uh, and in this instance, and I'm going to use, I'm going to go over this, show a couple of examples here. We're going to assume that that's cash. So, you've saved up $150,000. You got $150,000 in cash. You're not leveraging equity. You're not doing any of that kind of stuff. Okay, you with me so far, Gabby?
Mhm.
Great. So, now let's go over to the operating expenses of the property. So, if the weekly rental income is $461, we're going to assume the, or the gross rental income, would be $24,000, allowing for um, some vacancy and some letting periods and stuff like that. We're going to assume a gross rental, a gross property income of $22,615. You can see here the loan expense, the interest expense at 6.25%, is $33,481. Compared to all of the other operating costs of the property, that is by far the highest. So, we're assuming, and we're assuming an annual $2,000 operating, uh, maintenance allowance, rates, water, uh, all that kind of stuff, land tax estimate in here as well, which is very useful. So, that's $44,869 in operating costs. That would get you to, I'm just going to jump down here, to the net cash flow here.
Now, I'm going to take a three-year average, and I'll explain why. Uh, I'll explain why it's less in the first year than in the second year. But if you're just listening, the three-year average negative cash flow would be $18,655. So, let's call it 19 grand, right? Which is...
Yeah.
Do you want to just quickly minimize the left section?
Sure.
Yeah. There we go.
Okay.
Cool.
Uh, yeah. So, the negative cash flow would be roughly $19,000 per year based on, based on those considerations. So, the key things in there are: what's the interest rate, what's the loan structure, what's the yield, what's the property price? Okay, they're going to be the, they're going to be the kind of key drivers. So, that's going to be about $19,000 a year.
Now, let me change a couple of things because if we, uh, if we assume that, in fact, you're not using $150,000 of cash, you are, in fact, leveraging $150,000 of equity. And let's assume that you're, you're intelligently doing that and you're using a split loan, not just, uh, extending your home loan mortgage, but you're, you're doing a split loan, not financial advice. Uh, and let's assume that it's a 6.25% interest rate to borrow that equity out of your, out of your home or some other property. That would mean that the operating or the carrying cost of that capital would be $9,375. So, what does that mean for your negative cash flow? Well, that means that your negative cash flow would go from, from $19,000 to, uh, $19,000 plus $9,375. $28,375.
Okay.
And this is where a lot of people get tripped up, um, in thinking about this. Now, again, there's plenty of ways you can manage that because if you're leveraging equity out of an existing property, then perhaps you take more equity out than you need, put some of it into the offset to cover the negative cash flow for the first few years. It's very easy to do that because you could very, by the way, the, let's say, what did I say that was? $28,375. Let's say times three, that's $85,000. So, if instead of leveraging $150,000, uh, out of, out of your, let's say, your PPR or something like that, you could potentially do equals $150,000 plus $85,000. Uh, you could leverage $235,000. Now, obviously, the carrying cost would go up, but broadly, you could pretty much cover, um, three years worth of negative cash flow in doing so. Or, alternatively...
Mean borrowing capacity, but...
Yeah, subject to borrowing capacity, subject to, you know, all this. This is conceptually.
Or you could lower the purchasing, uh, price point. You could say, "Well, instead, I've only got 150, so what if I lowered the purchasing price point to, let's say, $500,000?" Right? Then that, then the cash required would only be $129,000, and you've still got $150,000. So, then you've got an extra $30,000 that you can put into an offset account to help support some of the negative cash flow on the property while you then still make your contributions.
Now, what I'm going to do, just for the purposes of this discussion, is I'm going to put this back to $150,000 cash. Um, but I'm going to then change this to a principle and interest 80% PNI because that's what some people like. People tend to either go like 88% interest only or like 80% principle and principal and interest. Let's assume a slightly lower interest. Let's call it 6%. Which you, you might get better than that, right? Maybe it's going to be 5 point something, but let's use 6%. So, on a $600,000 property, uh, with a 4% yield, which is on the low end, with an 80% principle and interest loan at 6% interest rate, uh, I need to work out why the cash require went up.
Their purchase price went up.
No, purchase price didn't go up, but that's all right. The negative cash flow would be, uh, an average of $19,722. Now, you got a lower LTV, but you're paying principal and interest on that. So, you're still going to be in the same ballpark.
So, my guidance, uh, my guidance to anyone out there, I'm just going to stop sharing my screen now because we don't need to stare at spreadsheets all day long. Uh, my, my guidance to anyone out there...
Yeah, but it's not everybody else's favorite.
My, my guidance and advice to anyone out there who is thinking about getting started investing in property at the moment is you should reasonably expect that the negative cash flow is going to be somewhere between 1,500 bucks and 2500 bucks, subject to, or whether you're paying, uh, whether you've got a cash-based, uh, capital to inject into the property, whether it's interest only, whether it's principal and interest, whether it's 80% OBR, whether it's 90% OBR, um, whether you're leveraging equity out of another property to pay for the deposits and cost of this one. It's going to be between 1,500 002500 bucks a month.
And again, there's plenty of ways that you can navigate that. That is not a, that's like, that is, that shouldn't be a reason to not invest because all you need to do is you really need to again zoom out and think about your what the return return on invested capital potential is for what you're buying. And if you are confident you're buying the right property in the right place at the right time, then it's very easy for you to outstrip. As I mentioned, $19,000 on a $600,000 purchase is a net carrying cost of around 3.1%.
So, really, what you would need to do is be confident that you're going to get a return on invested capital that supersedes that 3.1%.
Which is, which is not that hard to do. Now, of course, you want to, obviously, you don't want to get 3.5%, right? And be happy with that. You want a return on invested capital that's going to be far greater than that. But even on an average property, you're probably going to get 10, 20, 30% return on investor capital thanks to the benefits benefits of leverage. And so, this is really about the financial arbitrage between those two points. You've outlaid the capital, there's a carrying cost. What's your return on investor capital? That's how you're going to make your spread.
So, does that, do you think that helps, Gabby? Do you think we've kind of covered that kind of stuff off?
Yeah. I'm just wondering if we actually covered Charlie's question of how much negative carry is too risky from a risk perspective, because I think maybe people can adjust to, like, 'Okay, I've got to be prepared for 30-odd negative a year or whatever,' but at what point does it cross that risk threshold, do you think? Obviously, risk is subjective, but...
Yeah, I think, I think risk is subjective, right? So, let's think about what that would mean. So, let's just say risk means you lose your job and you can't afford to, to those expenses, right? Because...
That, that would be a risk, like, 'What if something happens? What if, what if I can't make the payments or whatever,' right? And so, it's useful to have a bit of a buffer. That's why I like leveraging equity and putting it into an offset account because it creates a buffer. That buffer can kind of keep you safe because let's say the property costs 1,500 bucks a month, and let's say your savings rate, um, is 1,500 bucks a month, and you're like, 'Yeah, but what happens if the car breaks down one month and I need to be able to cover the expenses?' That's why it's useful if you can, if you're leveraging equity or doing something like that, to, to have a buffer, or if you've got surplus capital to put that into an offset account and leave that sitting there.
Now, this might be a little edgy for some people, and for some people they're going to be like, 'This is totally sweet.' I'm just going to say that, um, the edge of risk that you need to manage is, is likely, 90 days, right? So, let's say you find yourself in a position where you can't pay for the cost of the property.
It'll probably take you 90 days to sell a property.
So, if something happened, if some drastic, something drastic happened, you lost your job, you didn't think you, whatever, something changed and you were like, 'I can't, I can't afford these holding costs anymore,' it's probably going to take you 90 days to unwind your position, basically, right? So, uh, you would, you would need to bear that in mind. So, I think, I think like at least 90 days of, and again, I'm just saying that's on the, that's on sort of maybe some kind of edgy end because people like [ __ ], like, 'Is it really, is that?' But 90 days of mortgage payments is probably really what you would need to consider, or 90 days of negative cash flow, whatever that is, right? So, um, that's probably, that's probably the edge of it, I would say, and I think if you're doing less than that, like you are...
Yeah, it's a good, it's a good way to think about it. I think just thinking through, like, how long would I need to adapt? If [ __ ] hit the fan, how long would I need to...
How, how long do I trust myself to find another solution?
Yeah.
Is that, you know, if, if the solution is potentially selling that property, maybe 90 days. If there's other solutions, what else you could do...
Or 90 days to get another job, or 90 days to another, 90 days to find more capital, or whatever. I tend to think that you can solve pretty much any problem in 90 days, right? So, so that's how I kind of think through things. It's how I thought through things in the business as well. It's like, you know, it's like, 'Right, we could probably fix pretty much anything in 90 days,' right? So...
The entrepreneurs are like five days.
Yeah. Yeah. Yeah. Um, but it's, it's also really a worthy reminder as well, like, what is the point? What is the goal? Right? So, if you're like, let's say you're going to do all this, let's say you're going to be like, 'All right, so I've got to carry some, so I've got a carrying cost of this, or like I've got a net operating cost that I've got to carry. What's the point? What am I doing? Where am I going?'
And Lily B, new favorite contributor to the, uh, to the, to the chat, by the way, she said, 'He, she, I don't know. Let me not, don't let me gender assume,' uh, 'Equity creation is the journey, cash flow is the destination,' which is again so absolutely, uh, so absolutely correct because what you're trying to do in this phase again is not work out how large of a bill can you afford to just pay. That doesn't sound like an aspirational destination, like, 'All right, so I need to try and work out how much negative cash I can support and just go for gold, see how much I can kind of,' yeah, in the pursuit of a return on invested capital to the point that you can build up enough wealth that you can then rotate that into higher yielding assets or let it sit.
So, if you get to the point where you have three, four, five, six, seven, eight, n, $10 million worth of net equity in your property portfolio, you have options. You can either rotate that capital into high yielding assets where growth is no longer the primary driver, but you may get some growth, but it's not the main, not the main reason you would own the property, that the yield would be. Or, alternatively, uh, you could sit and hold those assets for long enough that they eventually start to produce positive cash flow and that compounds over time.
One of the benefits of real estate is that it is a yield bearing asset. And if you just left it alone, um, it would, it would eventually, um, start to produce the cash flow that you want. And so, building the capital base first is the number one objective, and you should pursue that with as much vim and vigor as you can muster, and you should be willing to make sacrifices in the pursuit of that goal. Because once you get to that place, then you have optionality. Then you can rotate your capital. You can let it rest. You can do it. You can stop actually having to pursue it so hard. You can say, 'Okay, we've reached a platform now whereby we can make these kind of decisions,' uh, on, 'Do we want more capital? Do we want more cash flow? Do we want more growth? Do we want more whatever?'
And I think, I think it's very important to remember that it's a means to an end. It is not the objective in and of itself. Negative cash flow is not the goal. Return on invested capital is the goal. The cost of pursuing an effective return on capital, uh, percentage is going to be a negative cash flow, and you need to work out how to support that, and there's plenty many ways to do it. We help people do that all the time. Uh, we, yeah. So, we, we help people do people do that kind of stuff all the time. So, there's definitely ways to do it, but it's a means to an end. The end being you have enough capital to then turn that capital into the cash you desire. Sail off into the sunset, live whatever life you want. That is the goal. So, it's, um, it's, it's a necessary part of the process, just like saving is, by the way. You know, like you're not going to get wealthy if you spend all your money. You're not going to get fit if you don't, you know, eat well and go to the gym. So, it's just part of the process.
Yep. It's cool.
Sweet. Okay.
We've got to wrap this up.
We've got to go on a flight.
We do, on a jet. Anyway, uh, yeah. So, so we've got to go, but there's tons more. These, these questions are a gold mine. So, let us know if you like this. If you're watching this not live, let us know in the comments. Was this useful?
Yep.
What I, I would like to know. Here's a personal favorite to me. I would like to know what spec, if you found anything useful in this. What did you find useful? I would like to know that helps me. I like to think about this kind of stuff. I like trying to think about how much, how to add more value. Tell me what you found useful so that I can try and do more of the things that you want. Like a dancing monkey, you know, throw some peanuts at me and watch me, watch me wiggle. Um...
I'll do so on the plane later. Watch you wiggle.
Perfect. But let us know. Let us, let us know. Let us know in the, let us know in the chat. Uh, let us know in the, in the YouTube comments. Um...
Gabby, over to you.
Yeah. So, this episode we were obviously, uh, intending to get through a lot more questions with a lot more topics and a lot more concerns that, um, people have about property investing. At the moment, we only managed to scratch the surface by digging into all the cash flow questions. So, I very much think that we will do another episode in future where we come back through other concerns because there's, you know, always concerns that people have. Um, it's a changing world. Investing right now is different, and we need to think differently, and people have questions, and we want to be able to give you answers. So, let us know if there's anything specifically that you feel like is holding you back or that you just have this niggling, not quite sure about it. Uh, let us know in the comments as well, and we'll pick this up in a future episode. Goose, let's go. Okay, see you guys just answered your question in the chat. So, there you go. Bye.
Bye.
See you.