Have you ever considered what your life would be like if you had enough money coming in every month that covered ALL of your expenses, AND this money came in whether you worked or not??

For many people this seems like a fantasy. For others they wonder how this could even be possible. Well let me tell you that it is not a fantasy, and it IS very possible if you are willing to do a few simple things.

What I am referring to here is buying and owning rental properties. However non-sexy rental properties may seem, over time they build and grow your passive cash flow as well as your net worth through appreciation and amortization.

Let’s discuss each of these things. First, how do you find the right rental property? Obviously, not just any old property will do. The properties that I look for start in what I call working class neighborhoods. Think of streets you see where there are trucks parked that say “Al’s Plumbing” or “Frank’s Contracting” on the side of them.

These are hard working people that live in quality neighborhoods that are neither “up scale” nor are they the “hood”. I like these types of properties because the amount of differed maintenance and future capital improvements on the properties is much lower than the “hood” properties. This means more money in your pocket.

Also, these types of tenants generally do a better job of taking care of the property and having pride in them. All of this leads to greater cash flow. Now, not just any house in any of these neighborhoods will work though.

First, we need to find a property that has a Gross Rent Multiplier (GPM) of 8 or less. A GPM is when you take the gross monthly rental amount and multiply it by 12 to get the annual rents. You then divide the purchase price of the property (including its initial improvement costs) by the annual rent number.

For example if I found a property that rented for $1,000/month and I could be “all in” after repairs and everything for $90,000 this property would have a GMP of 7.5. $1,000 x 12 (months) = $12,000. $90,000/$12,000 = 7.5. So, this would be a great deal if this was our only criteria.

However, one last criteria I use after the GPM is if the property truly cash flows after all expenses have been paid. This is where you need to be very honest with yourself. The expenses need to include interest payment, taxes, insurance, maintenance reserves/costs, future capital expenses (ie. a new roof you will need in 5 years), property management costs, and vacancy allowance.

If after you factor all of that in and your rent still exceeds these expenses…you have a winner! I would move forward on that property in a heart-beat!

Now that we have passive cash flow from our rental property we can focus on going and finding the next one. You see the other benefits that I mentioned regarding rental properties (appreciation and amortization) happen automatically.

In a healthy real estate market appreciation clicks along at roughly 3% per year. This compounds every year on the full value of your property regardless of whether you have a loan on it or not. This increases your equity, and by extension your net worth.

Lastly, amortization is the paying down of your loan balance. By making the payment every month and doing nothing else the loan will pay off in 30 years, or whatever time frame your loan was amortized for. But, the best part of this is that with a rental property it is your tenant that is paying this down for you! This is huge!

To recap, even though the cash flow from your property may not seem much at first, it can grow and build with each additional rental property that you purchase. Combining this with the magic of appreciation and your tenant paying down your loan for you, you now have a true wealth building strategy.

With just a humble few properties in your portfolio you could someday choose to sell these properties and not have thousands of dollars in your pocket but rather have millions. Now that would make for a nice retirement.

To Your Success,

Andy