Why Passive Income May Not Be Real Income
The classic best-case scenario for every real estate investment would be the one where you get positive cash flow. How you get positive cash flow is simple. Just make sure that the monthly income collected exceeds the monthly instalments, maintenance, property taxes, agent fees, etc. Some people may even classify this positive cash flow as “passive income”. IRAS will treat this rental as part of your income and tax it accordingly. Personally, I do not classify rentals as income. I will explain why, later.
In today’s market, it is unlikely you can purchase a new condo that will give you positive cash flow. The question is this. Why are some people still buying them? Can you even make money buying condos with negative cash flow? Are they still worth it?
Are Negative Cash Flow Properties Still Worth It?
To answer this question, I will be showcasing the expected rentals of what you can expect in today’s market.
|Yield @ 3% per year||$30,000|
|Monthly Installment at 2.2% interest rate||$2848|
|Total Outgoings (Cashflow)||$3248|
|Cashflow Difference ($2500-$3248)||-$748|
|Interest Costs (2.2% averaged over 5 years)||$1290|
|Total Outgoings (Expenses)||$1775|
|Profit Difference ($2500-$1775)||$725|
Using the above as an example, even though you might have a negative cash flow. You are getting a profit. The only difference is that the cash you are coming up with every month goes into the principal.
Fast forward five years later, you decide to sell the property. Let’s assume a worst-case scenario where the property price did not appreciate. After selling, you still get back almost double of what you put in every month. How many investments out there pay you back a single dollar for every dollar you put in? Not to mention the potential for capital upside if you choose the right product.
Negative Cashflow Over 5 Years $748x12x5=$44,880
Realised Profit Over 5 Years $725x12x5=$43,500
Cash Back After Selling =Intiital Investment + Negative Cashflow + Realised Profit
However, real estate is still a highly leveraged instrument. Let’s assume the condo price fell 5% from $1 mil to $950,000. The income you have collected is gone; there is nothing “passive” about it. I do know of some investors who place rental yields as their top priority. Only to find that when they sell later, this “income” disappears. The more important thing is to find out if a property has the potential to retain value or appreciate in the future.
Real Estate Is Just A Means To An End
In addition to consumption, condos can also be an instrument for you to reach your financial objectives. Most of the time, people do not go into the specifics of how it can be used to fulfil their goals. In this example, we have shown you that even though cash flow is negative. You are still getting a profit at the end of the day. To open your mind and understand how real estate can help you obtain your goals, talk to us today. You will be surprised by the solutions that we provide.
Article contributed by Jerry Wong
Jerry Wong is a realtor with Propnex Realty. He loves coffee, cookies and condos. Most importantly, he loves connecting people to properties and gets enormous satisfaction when they acquire their dream home or make that capital upside in just a matter of months. Buy Jerry a coffee, and he will meet up with you on a 1 to 1 session to share the following
- How certain factors affect real estate prices. (Using historical transactions as references)
- Applying lessons from history to determine if a condo has the potential for upside or not. These condos can be those under construction, resale or the very one you are staying in right now.
- Or prepare the toughest question you have on your mind! If it is interesting enough, the answer will be in a blog post and shared with everyone!
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Other How To Guides
Is it Financially Feasible To Buy A Condo for Investment When the Rental Income Cannot Cover My Monthly Instalments?