Many of the world's wealthiest people have created their fortunes through real estate investment. If you want to invest in real estate while also creating income right now, though, you’ll want to learn how to build a rental property portfolio with high cash flow.
Having a healthy monthly cash flow from your rentals isn’t just about being able to charge exorbitant rents for swanky apartments. In fact, many of the best markets for cash-flowing properties are far from HCOL coastal areas.
How can you build a high cash flow rental property portfolio, you ask?
Stick with us while we take a look at everything you need to know.
If you’re new to investing in rental properties, there are probably a lot of new terms that you’re trying to grasp. The absolute most essential components of rental properties are very simple, though: your income and expenses. Cash flow encompasses both of these concepts, as it refers to the money that moves both in and out of your rental business.
When you own a rental property, you will receive income (rental income and other sources) and spend money to operate the property.
When the amount of income you are bringing in exceeds your expenses, this is known as positive cash flow. When your expenses exceed your income, it’s referred to as negative cash flow.
The two primary ways that rental investors make money are through cash flow and appreciation over the long term. Positive cash flow provides regular monthly income, while appreciation can only be cashed in when you sell or refinance the property.
Some real estate investors might purchase properties primarily to benefit from anticipated appreciation. However, if you’re looking to receive passive monthly income from your rental, you’ll want to focus on purchasing properties that provide healthy, positive cash flow.
When cash flow is positive for your rental, it means that you’re making excess money beyond the operating costs. The more money you make from the rental, the more secure you’ll be in terms of dealing with surprise repairs or other expenses. On top of that, you’ll have more wiggle room to make upgrades or renovations if you want to.
Additionally, the more cash flow your portfolio is providing, the more money you can use to pay off the mortgage, reinvest in other properties, or diversify your investments.
When your goal is to build a rental property portfolio with high cash flow, there are certain considerations you’ll want to take into account. Let’s take a look at how you can identify properties that produce an adequate amount of cash flow right off the bat.
You’ve heard it before: location, location, location. It might seem a bit cliché at this point, but the reality is that real estate really is all about location. No matter how incredible a particular property is, no one is going to want to rent it out if it's not in a location they want to live in.
Buying a rental property in NYC is going to be out of reach for all but the wealthiest of investors, but what about Buffalo? When housing prices are reasonable, it presents an opportunity for investors to purchase a cash-flowing property. Of course, this has to be weighed against rental demand and average rates in the area.
You’ll also want to take a look at the existing rental market in the location you’re interested in investing. How easy it will be to rent out your property is a result of supply and demand: if the market has too many apartments for rent and not enough tenants, you’ll have a much more difficult time filling vacancies for your desired rental rate than if there are fewer rentals than there are tenants.
Even though you’re primarily concerned with building a rental property portfolio with high cash flow, it’s also important to keep appreciation in mind.
Appreciation is one of the two ways that you build equity in rental properties (the second being paying down the mortgage.) You can use the equity in the properties you own to grow your portfolio through intelligent leveraging.
How much you can charge for rent in a particular location absolutely must be weighed against the cost of the property and its associated expenses. This might include taxes, insurance, utilities, absorbing the cost of vacancy, maintenance, and more.
A location with projected future rent increases can be a good sign, but you’ll want to make sure that year-over-year wage growth meets or exceeds this rate. Otherwise, you could be looking at an issue down the road where tenants can’t afford their rent.
A strong job market is a good sign for a consistently cash-flowing property. Keep an eye out for locations that have unemployment rates at or below the national rate.
Rental yield is a percentage that represents the relationship between rental income and property market value. You will be able to create more cash flow the higher the rental yield.
When you’re buying a rental, you’re making a long-term investment. This means that you don’t just need to be thinking about the market this year or next year, but what it will look like in five, ten, or even twenty years.
Population growth is one of the indicators that suggest that people are moving into a market, whether it be due to job opportunities, a higher quality of life, or a lower cost of living.
There can be a lot of benefits to building your rental property portfolio close to where you live. This is particularly important if you’re expecting to do a lot of the work yourself and manage the property on your own.
However, some investors in high-cost-of-living cities have to look elsewhere to build their rental property portfolio with high cash flow. Others still might be happy to have a totally hands-off approach where they have a rental in a distant city.
As a word of warning here, it’s always essential to do your due diligence when selecting a rental property. Buying a high cash flow property requires more than simply selecting a city off this list and purchasing the first affordable property you see.
In all of these cities, there are going to be parts of town that are headed in the right direction while others are falling into disrepair. Finding the right neighborhood to invest in is essential.
In between Cincinnati and Columbus, Dayton still has low home prices and great price-to-rent ratios. The tenant laws in Dayton are fairly landlord-friendly, but the property taxes leave a bit to be desired. If you don’t mind a smaller market and you’re just looking for a good cash-flowing property, Dayton might be worth checking out.
Birmingham has low home prices, low property prices, and a potential revival afoot. That being said, there is still relatively high crime and poverty there and the market is smaller than in other cities on our list.
New York State might not be the first thing that comes to mind when you think about cash flow markets, but Buffalo definitely has some appealing qualities. Though the state income tax is very high, the winters are harsh, and the property taxes are rough, Buffalo does offer solid price-to-rent ratios for people looking for properties in western NY.
Pittsburgh is a rust belt city that’s been on the up and up for several years now. With a growing tech sector and a large, dynamic rental market, this could be a good choice for investors looking for high cash flow renters in a larger metro area. On the downside, though, some of the laws lean towards being renter-friendly and the property taxes are relatively high.
Another big metro area that offers some strong cash flow potential is St. Louis. This is one of those places where you’ll definitely want to do a lot of research into the neighborhood you invest in. There have been population declines in the city, but the larger metro area has continued to grow.
One of several rust belt cities on our list, Cleveland has low home prices compared to other US cities and appealing price-to-rent ratios. While there’s a lot of talk about a Cleveland revival, it’s worth noting that the poverty and crime rates are relatively high there and the city still faces economic challenges.
Cleveland also has pretty harsh winters, which can definitely add to the wear and tear on your property and increase winter expenses such as snow removal.
If you’re looking for a place with very low property taxes and an in-progress downtown revitalization project, you might want to check out Montgomery, Alabama. Though this is a small market and there has been a bit of population decline since 2010, there is a fairly stable job market because it is the state capital.
In order to calculate the cash flow of a prospective or existing property, you’ll want to add up all sources of income and, separately, all of your expenses. Then, you’ll subtract your expenses from your income. The result will be your net cash flow.
As your portfolio grows, you can look at the cash flow of your properties as a whole. In this instance, you would add up the total amount of income you receive from your rentals and then subtract the total expenses you spend operating your rental portfolio.
If you're looking for more appealing markets for real estate investment, check out our recent post on the best places to buy rental property in the US.
There are two primary ways that you can purchase a rental property: with cash or by borrowing money.
While many new investors simply aren’t able to buy in cash, those that do have the option might want to consider the pros and cons of sidestepping a monthly mortgage payment.
If high cash flow is your primary objective, buying a property in cash will allow you to receive the most immediate cash flow. Landlords who purchase properties through financing typically expect about 70-80% of their rental income to go toward mortgage payments. When you pay in cash, your monthly expenses are significantly reduced in a way that seriously increases your cash flow.
That being said, many investors would tell you that you’re shooting yourself in the foot to increase cash flow by purchasing in cash. This is because buying a property with a loan allows you to leverage other people’s money and increase your buying power. It’s possible that you could own several rentals with loans that produce the same amount of cash flow or more than the one property you bought in cash.
Only you can decide what makes sense for you when it comes to financing your property purchase. Some investors prefer to own their properties outright, avoid the cost of interest, and enjoy the immediate cash flow their properties provide as soon as a lease is signed.
If you’ve never purchased a property with a loan before, you’re going to want to learn more about amortized loans. In short, when you first start making your monthly mortgage payments, the bulk of that money is going toward the interest and not the principal. This means that if you only pay the monthly mortgage payment, it’s going to take a long time to build up any significant equity in the property unless you put down a sizable down payment.
Some investors might choose to use their profits from a high cash flowing property to pay down their mortgage sooner and reduce the cost of interest over the life of the loan. However, others might be happy to pay the interest on the loan with the knowledge that they can receive a higher return on investment by putting their money elsewhere.
Once you have found the market(s) that you want to build your portfolio in, your work isn’t done. In order to build a rental property portfolio with the highest possible cash flow, you’ll want to find the right property that you can buy for the right price.
Here are some of the ways that you can find rentals that have the potential for strong cash flow:
While you can’t necessarily bank on it, you can also sometimes find that properties have been improperly listed and therefore aren’t receiving the attention they normally would. In these cases, you might be able to get a good deal because the seller hasn’t been receiving the offers they expected.
You can also look for properties that are being sold for sale by owner or that are only being listed on sites like Craigslist or Facebook Marketplace. When homes aren’t on the MLS, they aren’t getting as many views as they typically would. That being said, there are definitely some downsides to purchasing from FSBO owners, so this isn’t something you’ll want to take on lightly.
Many investors assume that they can get a good deal by purchasing foreclosed properties at auction. While it’s definitely possible, there are some risks to investing in foreclosures that you’ll want to be aware of.
When thinking about cash flow, you always need to have both income and expenses in mind. While a property might look good on paper when you add up the anticipated rent rates and costs of ownership, it’s important to know about these other factors that can decrease your cash flow.
Every time a tenant moves out, you’ll have to start the search for renters all over again. On top of that, there could be additional costs when it comes to cleaning and repairs if they aren’t covered by the security deposit.
One of the best ways to reduce tenant turnover is to carefully screen your tenants. Avoid the urge to simply sign a lease with the first person that comes along. While it can take a lot of hard work to find a tenant that is a good fit for your property, it is often well worth the effort.
If you haven’t ever marketed a rental property before, it’s important to understand how time-consuming the process can be. Finding a tenant that’s going to stay for several years rather than one that wants a month-to-month and will leave after one summer can make a huge difference in how passive your income really is.
Of course, you can hire property management to handle things like finding and screening tenants. Many investors go this route and are happy to have a hands-off approach. Others, however, want to have more control over tenant selection.
Working to have a communicative and friendly relationship with your tenants can also help to reduce tenant turnover. On top of that, investing in neighborhoods that are on the up and up, offering a well-maintained property, and quickly responding to any tenant repair requests or complaints can help to keep turnover low.
One of the benefits of a high cash flowing property is that it gives you the opportunity to build up an emergency fund for unexpected, costly repairs. However, sometimes things crop up that can’t be covered by your reserves alone. That means that the work that needs to be done will have to be paid out of your pocket, rather than the funds generated by the property.
Related to tenant turnover, vacancy is the ultimate killer of cash flow. After all, there’s a good chance all of your income comes from rent and other fees that tenants pay (laundry machines, parking, storage, pet fees, etc.) If you end up with more vacancies than you anticipated, your cash flow projections will fly out the window.
Property taxes and insurance rates can vary greatly depending on your location. On top of that, they can increase over time and potentially every year. For this reason, you’ll want to build in an expectation that these expenses will increase as the years go on when you’re calculating your anticipated cash flow.
A non-paying or frequently late-paying tenant can be a huge problem for your cash flow. After all, you have to pay the mortgage on time regardless of whether or not they pay the rent. If you end up having to go through eviction proceedings, this can be seriously destructive to your cash flow.
There are two ways to increase your rental property cash flow: increase your income or decrease your expenses.
While increasing the rent seems like a simple way to make more money from your rental and increase your cash flow, it’s something that you’ll want to do thoughtfully. After all, if you charge too much for rent or increase the rent too aggressively on existing tenants, you might find yourself sitting on a vacant property.
It’s also important to note that different locations sometimes have laws and regulations about rent increases. You’ll want to familiarize yourself with what is allowed in your state and city before you start hiking up the rent prices.
You’ll also need to give your tenants a reasonable amount of notice if you’re raising the rent. The typical amount of time is 30 days, but, again, this can vary by location.
When you choose to increase the rent, you’ll need to make sure that you aren’t stretching beyond what is typical for rent in your area. Run a comparative analysis of similar properties to see if you can afford to raise the rates on your rentals.
When you build a rental portfolio, you can really start to see the benefits of raising the rent incrementally over time.
For example, if you own one property and you raise the rent by $50 a month, that’s an extra $600 a year. Every little bit helps, but that’s probably not going to be your ticket to retiring early.
On the other hand, if you own twenty rental properties, and you raise the rent on each of them by $50, that’s an extra $12,000 a year.
While rent might be the primary way you make money from your rentals, it’s not the only way. If you own an apartment complex, you might consider setting up a vending machine or coin-operated laundry to generate more income. Offering storage for an additional monthly fee can also help increase your cash flow.
Some amenities and upgrades won’t pay for themselves in the form of justified rent increases, while others might. This isn’t the time to take on a passion project, but instead, look at the numbers and see if there are changes you could make that would pay for themselves quickly.
If your property is pretty run down, you can likely increase your cash flow by making the place more appealing to higher-quality tenants. However, if the property is in a rough neighborhood, you might struggle to find reliable tenants regardless of how nice the property is.
Some upgrades that might be worth investing in to increase your cash flow include:
When you’re going out of your way to maximize your cash flow, it’s worth noting the importance of marketing when it comes to renting out your property. Investing in a professional real estate photographer could be well worth the cost, as well as taking the time to write a compelling and appealing listing description.
This might not be the right choice in all markets, but furnished spaces can typically receive higher monthly rates than unfurnished spaces. If your rental is in a college town, for example, furnishing the place could help you increase your cash flow.
While you’re making changes to increase your income, you’ll also want to take a look at your expenses and see if there are any areas where you could save money. Sometimes, it costs money to save money. For example, investing in a new HVAC system could save you money in the long run if you cover utilities, or making necessary repairs when they’re small and manageable can avoid the cost of an expensive repair down the road.
Purchasing a rental in a high-cost-of-living area like San Francisco isn’t just going to be pricey, but it’s also not going to be ideal from a cash flow standpoint. While you can charge higher rents in more expensive cities, it also means that all of your operating expenses are going to be more expensive. You might not be able to charge Bay Area rent prices in an Alabama city, but you also won’t have to pay Bay Area prices every time you have to hire a plumber or get a new roof.
Beyond the cost of living (and city taxes) in specific municipalities, you’ll also want to understand how the state you invest in can have a big impact on your cash flow. Some states have zero property taxes and others have astronomical property taxes.
If you’re new to the world of investing, the notion of having a portfolio of rentals might sound out of reach. However, over time, you can turn one humble rental into a collection of properties that produce high cash flow.
One of the most essential skills necessary to become a successful investor is to know how to identify properties that will help you reach your goals. To run the numbers on your prospective property, you’ll want to use our advanced rental property calculator.