They say “cash is king” but maybe “cash flow is king” would be more appropriate.
Cash Flow from Zero
So our last article was about a hypothetical situation in which we were trying to make a million dollars in two years. There was a lot of feedback expressing an interest in doing a similar exercise regarding cash flow. The thing about a net worth of 1,000,000 dollars is you cannot eat it until you convert it to cash or cash flow. I myself need to eat. I don’t know what the perfect number would be to target but let’s start with a goal of 5,000 dollars per month for this scenario. I think 5,000 per month could help a lot of people improve their life or even reach financial freedom. If your number is 10K then just double all assumptions here. So here goes…
Rental property is clearly our thing. It’s our favorite strategy for building long-term wealth but I have to admit that it takes quite a few doors to generate enough cash flow to live on. For today’s scenario let’s assume we are starting with zero real estate. A few strategies that come to mind for me are flipping houses, selling on owner finance terms and short term rentals. There are many other strategies that would likely work but let’s look at these three.
We have flipped a few houses in our real estate/financial freedom journey. Most we purchased to turn into rentals but something arose during the rehab that made us decide to sell instead. I regret every single one! The reality is the cash it provided was used in our portfolio so it served a purpose but I always look at what the property would be worth today and get a little sick. For today’s goal we aren’t looking to focus on growing our net worth as much as we are focused on cash flow. This strategy is clearly a “job” and not “investing” but it can earn someone a nice income while learning the ropes and staying in the real estate space. I think we’ve averaged about $35,000 profit on each of our flips. That would mean we’d need to generate two flips per year to gross our goal. After taxes we’d probably fall a little short so let’s say three flips per year to be safe. Those flips we did were accomplished with no physical labor on our part but it is still a job to find the deals and manage the rehabs. That could all be managed on a part-time basis.
The biggest challenge would be deal flow. We might start a marketing campaign to keep our funnel filled with leads – and that too would cost money. I would seek financing from private lenders but would use hard money lenders if I hadn’t built any relationships with any private lenders yet. I would set aside plenty for taxes as flips are not treated with the same tax magic that rentals are. HGTV never talks about the taxes due at the end because they are not sexy!
Another cashflow strategy would be finding deals and selling on owner finance terms. There are a lot of resources out there regarding how to do this but essentially you can buy a house and sell it on “terms” which means you serve as the bank. Mitch Stephen is one author who has outlined this strategy. You must charge enough interest to make it worthwhile for you as an investor and it must still be affordable for the buyer. This can be done using other people’s money by creating a note whereby you buy the home with private funds and then sell on a note at a higher balance and/or interest rate than the underlying note. There are a lot of steps in this strategy but many people utilize it to create cash flow. There are new regulations in place regarding this type of transaction so be aware before jumping in.
The upside can sometimes be that you can sell a house in “as-is” condition. The other is there is no maintenance or management because you are the bank and the buyer holds all responsibility for the house to include paying for insurance and property taxes. This strategy can potentially beat rentals for cash flow but there is no ownership remaining of the asset other than the note; which eventually will be worth zero. This strategy does not allow the investor to benefit from the appreciation in the asset and the interest earned is taxable. We did one of these to help out a great contractor friend. It has been a nice cash flow and he has increased the property’s value (our collateral) by about threefold and the market has further pushed the value up. One day, however this cash flow will dry up – at the note maturity. This strategy may take a while to build up to 5,000 dollars per month. The cash flow from each property would vary depending on how expensive your private money is and how discounted the property you find and re-sell is. You would also need to develop more private lenders than you would with rental as their money will likely be tied up for years whereas with BRRRR deals you can often recycle the same lender’s money over and over again meaning you likely won’t need as many lenders.
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Finally we come to what I think would be my focus if given this challenge. It is what I would do to boost cash flow fast and would take several months but I believe our goal would be attainable in one year with just a few properties – and we wouldn’t even have to own them (of course you know I would prefer to).
This is the short term rental or STR strategy. Also known as AirBnB or VRBO due to those booking platforms helping to make this strategy available to the masses. One of the lines in the “million dollar” post that seemed to resonate with many of you was “we do different things when we are hungry than when we are full”. This has been one of those situations for us. We have stayed focused on our long term rental strategy because it has worked for our goals; we have been “full”. We’re in the midst of a transition now in our life (more to come in future posts) and if we should find ourselves hungry, converting a long term rental or two to short term would be one of my first moves to pivot and increase cash flow. The only reason we haven’t pursued this strategy for our business is that we have decided to stay laser focused on our long-term rental strategy which has worked for us but it wouldn’t have worked if we needed $5,000 per month in cash flow in one year from starting out.
STRs could have accomplished that amount, I believe, given that we could potentially rent a house from a landlord to then rent out on a short term basis (sub leasing). This is commonly referred to as “rental arbitrage” meaning you rent from a landlord at a long term rate and then furnish and book the property on a short-term basis as a furnished rental and you keep the difference or spread. You can get creative with this strategy and could potentially get started with very little capital. While I don’t have exact numbers to offer from personal experience, I have interviewed many hosts who net over 2,000 dollars per month with ordinary neighborhood homes. For our example, we’ll be conservative and estimate 1,000 dollars net cash flow per house after all expenses. That is only five houses to reach our goal!
Who would rent you the house to employ the arbitrage strategy? I believe many landlords would consider this arrangement if you presented it well (and I would be transparent with your plan from the start). If someone presented it to me, as a landlord, in a well thought-out manner with a professional approach I would give it serious thought.
If I were approaching a landlord I would sell the idea by illuminating the fact that the property would be cleaned much more often than it would be as a long term rental. I would emphasize that landscaping and general cleanliness would affect my reviews on the hosting platforms, and thus my business, so it would be in my best interest to keep things in near perfect condition. I would offer to make all repairs under a particular price point (maybe 200 dollars). If the landlord needed convincing I might even offer to pay $100 more than market rent or pay a larger deposit. I would also want an agreement regarding the speed of repairs to essential systems so that I don’t have any long periods that I cannot book it, or many cancelled bookings – even if it meant I handle scheduling these essential repairs with a reimbursement agreement.
Now I would need to furnish the house. I have heard people tell me that this can cost from 5,000 to 15,000 dollars. I would be shopping second hand stores and hoarding any good deals but I would only buy things I believed were at or above the standard for similar properties being offered on STR sites. I have stayed in places that seemed garages sale-ish. Don’t do that. I would buy linens new and mattresses new. I would buy extras when I found a deal because I would not be stopping at one house. The next house would be even easier to sell to the landlord armed with the experience of having actually done one already. It would no longer be just a theory. I have often thought that STRs would be easier to own ten than one. I think that creating systems and finding great cleaners and, eventually, a manager to communicate with guests would make the business much more passive.
What if I didn’t have the money to furnish it? That’s a lot of scratch. Sell a kidney, of course! Or plasma??? Just kidding. There are lots of ways to make this happen. While I don’t like credit cards at all, if I am truly “hungry” I am always betting on myself and my partner in crime, Veronica. That means that if I absolutely had to buy with a credit card, I would with a plan to pay it off as soon as cash flow began coming in. I have sold cars to invest in real estate and I have remortgaged my house to get at equity that was being lazy. Some people would say this is a bad idea but I absolutely bet on us above anything else so if either of those tactics would generate the capital I needed to get started I would consider them. Better yet, try a HELOC or Home Equity Line of Credit that you can just pay off like a card but with better rates.
As with all “no money” and “low money” strategies, it is advisable that you have some savings or access to capital because there will be unforeseen obstacles that will arise over time. That may mean partnering with someone who has capital and you do all the work. I want to be realistic here but I also want to remove any barriers to getting started that anyone may be conjuring up.
Finally, after shopping like a coupon clipper on Black Friday, I would fall into bed every night reading everything I could on STRs. I would be determined to make mine the very best one in its area and price point. I would give personalized service and follow-up with guests to ensure I got five star reviews. I’d probably leave surprises to endear the guests with their experience. Reviews are their own form of currency in this modern sharing economy and, from what I understand, they are worth protecting.
While I don’t have first-hand experience in STRs, I do have many friends who do and I stayed at a Holiday Inn Express last night. Old guy joke. I don’t want to represent myself as an expert in this space because I am not. This is one of many niches. Please double check the numbers and facts I presented.
I believe this can be a great strategy to generate cash flow to start investing. Only when you get to the point of owning some of the property will you get the long-term wealth building benefits as well. Most of the hosts I know own the real estate they rent out and I would recommend you eventually try to own your own so you get cash flow AND wealth accumulation via debt pay down and appreciation etcetera while you operate the more active part of your hosting business. It’s not “passive income” hosting STRs but it beats waiting tables, laying sod or loading lumber or many of the other jobs I have had in my life. Most of it can be run from a phone wherever you are. I might start out cleaning and doing the makeready myself to save money and pay down any debt incurred in the setup but I’d be looking for a reliable cleaner to eventually clean all of my future STRs to make my job even more passive.
Learn all the regulations in your area regarding STRs so you can do it legally without the risk of being shut down. Pay the taxes required for your area. Get the permits where required. With a newer strategy like this that affects neighborhoods in one way or another, there will be regulations from local governments. Some are supportive of the STRs and some are not. These regulations could change at any time so being aware of local sentiment on the topic is helpful. Having secondary exit strategies would also be helpful – particularly if buying the property.
Remember the line about doing different things when we are hungry than when we are full? What would you do? How hungry are you? If 5,000 dollars a month would get you to your freedom what would you do to get there? What would you then do with your freedom??
I hope this has helped someone who is searching for a way to find their own freedom and independence or maybe someone who just needs to create a little wiggle room in their budget by starting a business of their own.
There is risk with all business ventures but education can reduce the risk. Learn all that you can but don’t stop at learning; take action and create the life you want. Like most things in life, you can learn a lot from books but the best learning happens when taking action.
I hope this little exercise has helped you explore options to generate cash flow. I have just about convinced myself to start hosting while writing this one. It actually seems like fun to me. I’ll avoid this shiny object for now but may revisit it in the future and if I do, I’ll definitely report back here.
In the mean time, don’t actually stay in a Holiday Inn Express, stay in AirBnB’s and support the small entrepreneurs who are providing unique experiences and competing with the big hotel chains. Go create something to support your “why” and, as usual, keep the Main Thing the Main Thing!