The monthly cash flow of your rental property is important, but that’s not all

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Becoming a real estate investor in Canada can seem like a sure-fire shortcut to wealth.

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While this has been the case for many, few people become successful real estate investors simply by buying all the properties they can afford and assuming the rent will do all of the heavy lifting.

A recent analysis found that from January 2020 to May 2021, almost all homes bought in Toronto would lose money for their owners in the rental market. Research has shown that real estate investors in Montreal often lose money on a monthly basis.

Choosing the right property to invest in requires careful thought. You need to examine the surrounding neighborhood to understand the appeal it offers to residents, take a look at the local economy to make sure it supports long-term housing demand, and assess the property itself in terms of its value. profitability.

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And one of the most important steps is calculating the cash flow, the amount of money the property will earn or lose each month.

If this is the first time you’ve come across the term “cash flow,” don’t worry. Calculating it is pretty straightforward.

Monthly income is not everything

While ideal, a positive cash flow is not necessary for a real estate investment to ultimately be considered successful. A house with negative cash flow can always pay off in the long run – if it appreciates in value over time, as is typically the case with real estate in Canada, and if you can afford the monthly cost.

“Most people, and especially newbie investors, think that a successful investment is all about the cash flow and that there is really nothing else that matters. But the real gains in real estate come from a long-term view, ”says Tom Karadza of Rock Star Real Estate in Oakville, Ont.

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Either way, figuring out what a property will earn (or cost) you each month is essential to helping you understand whether an investment property is within your budget or your overall investment plan.

The cash formula

The first thing to do is to determine the gross income of the property. Based on the condition of the house and local rental values, how much will you realistically bring in rental income each month?

Once you have that number, it’s time to add up your monthly expenses and subtract them from the gross income. Taxes, maintenance fees, and property management fees should all be included here, as should utilities if your tenants don’t pay them.

This part of the equation can be tricky for inexperienced investors, who may not know what to expect for maintenance and management.

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Monika Jazyk, an Ontario-based real estate investor and founder of Real Property Investments, says she typically subtracts five percent of the monthly rent amount for maintenance and eight percent for property management. If you don’t hire a professional property management company, you can ignore this expense.

Jazyk says investors should also factor in the cost of vacancies. She suggests basing this figure on the vacancy rate in your local market and subtracting that amount from your gross income. So if your local market has a five percent vacancy rate, you should subtract five percent from the gross income.

“There are times when it could be zero because there is such a demand for housing, but there will be times during your waiting period when tenants leave, so you should always put that number in there. way, ”she said. “I’m still doing three percent.”

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Finally, subtract your monthly mortgage payments from your gross income. What is left will give you a clear idea of ​​what your monthly cash flow will be.

An example

Let’s take a look at the numbers for a single family home in Toronto valued at $ 1 million. Tenants pay for all utilities and you will manage the property yourself, so you don’t need to factor in these costs.

  • Monthly rental income: $ 4,000
  • Monthly expenses: $ 509 (taxes), $ 200 (maintenance), $ 120 (vacancy)
  • Mortgage cost: $ 3,501 (principal of $ 800,000, amortization over 25 years, fixed rate over five years of 2.29%)

This particular property would have negative cash flow of $ 330. For Toronto, around now, it’s not bad.

If that’s not good enough, it is possible to improve a property’s cash flow. Working with your mortgage broker to get a lower interest rate will make a difference, as will adding a second rental unit, renting out garage space, or even putting up notice boards on your home. property, if these are options.

But you won’t be able to find solutions to your cash flow problems until you know how to identify them correctly. Make sure you know how much you are winning or losing each month.

This article provides information only and should not be construed as advice. It is provided without warranty of any kind.

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