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Go With the Flow

Forget the flipping and the flopping of capital gains real estate investment strategies

The successful husband and wife duo on HGTV’s “Flip or Flop” show keeps viewers on the edge of their seats as they purchase rundown properties for cash, sometimes sight unseen, and then renovate and flip them for resale. And boy, do they make it look effortless, always coming out ahead financially no matter how many obstacles they encounter!

The truth is, real-life flippers may not find the same level of success. So many things can go wrong along the way—from choosing the wrong property and paying too much for it to unexpected and expensive repairs or not finding a buyer fast enough. This is where investing for the purpose of capital gains instead of cash flow becomes risky.

Two Types of Real Estate Investments

When it comes to investments, there are primarily two things people invest for: capital gains and cash flow.

Capital Gains are the one-time profit you make on the sale of an investment. The strategy behind capital gains is to buy and sell. In order to realize capital gains, you must sell the asset. As long as market prices go up, capital-gains investors win. But when the markets turn down and prices fall, capital-gains investors lose.

Cash Flow is an ongoing stream of income you receive from an investment. You may receive this money on a monthly, quarterly or annual basis, depending on the investment. The strategy behind cash flow is to buy and hold.

Sure, you might make a killing off flipping one house if all the stars align—but how repeatable is that process? I’d argue that it’s not, because each time you start a new flip project, you’re facing a host of unknown variables to transform the property and then sell it. You might get lucky and flip it for profit. But you could just as easily flop. The risks are just too high.

The Path To Financial Freedom

I know another successful husband and wife duo—me and Robert—who has taken the opposite approach of the TV couple and have made millions by investing for cash flow. This means money is consistently coming in and we don’t have to worry as much about the short-term direction of the market as those focused on capital gains.

The core idea of investing for cash flow is to build wealth steadily to leave the rat race and/or prepare for retirement. This model is also used for building capital, as it assures you of a continual income at specific intervals.

For example, when Robert and I “retired” in 1994, we did not have millions stashed aside. But we had $10,000 in cash flow coming in every month from our investments, primarily real estate. Since our living expenses were only $3,000 per month, we were financially free—the cash flow from our investments was more than paying for all of our living expenses. So the goal is to build up your monthly cash flow so that it’s greater than your living expenses.

A Few More Cash Flow Benefits

Another advantage of focusing on cash flow is that it eliminates the fear of running out of money during retirement. By accumulating assets that provide a monthly cash flow, money comes in every month until you decide to sell the asset(s).

Additionally, cash flow is what is known as passive income, which is the lowest taxed type of income. This is not always the case with capital gains taxes, which vary depending on the type of asset you've invested in and how long you've owned that asset. In some cases, the taxes can be very high.

Finally, you can start making money from day one—as soon as you get a tenant into the property, the income begins to flow. There’s no need to wait for a property to increase in value to see a return.

Original publish date: August 24, 2017