The Difference Between Good Capital Growth and Positive Cash Flow
When it comes to property investment there are two ways to earn money. There is the positive “cash flow” camp where it is suggested you should invest in real estate that has the capacity to generate high rental returns. Typically these have been in mining areas outside of bluechip areas. Then there is the “Capital Growth” camp, this favoured strategy is to invest for capital growth over cash flow. In other words, you need to buy property that produces above-average increases in value over the long term.
Let me show an example:-
Capital Growth versus rental income on a $400,000 property, these calculations are rounded off to make it simple to digest.
Imagine you bought a property worth $400,000 in a growth area delivering 5% capital growth and 10 % gross rental return; in 20 years your property would be just over $1,061,319.
On the other hand, if you had purchased a property for $400,000 in a high capital growth area showing 10% per annum capital growth and only a 5% rental return this property would be worth $2,691,000 at the end of the same period.
Here’s the thing you can’t ever turn a cash flow positive property into high growth property, usually because of its geographical location. But by choosing wisely you can achieve both high rent returns (cash flow) and capital growth by renovating or developing your high growth properties. This will bring you a higher rent and extra depreciation allowances, which converts high growth, strong cash flow properties.
Back in 2014, I had a lovely client called Belinda. She had just broken up from a long-term relationship and wanted to buy something that she could firstly live in, then use to leverage herself into the next property. After a few weeks of searching, I found a great warehouse style apartment off-market in Paddington for $750,000. It was a great buy as one exactly the same sold for $790,000 in an auction campaign a week later.
I then assisted her with doing a smart juss up and adding instant value. She lived in it for a year and then used the equity to buy another property. The rent she receives is $850 per week so it now pays for itself. The property has now been currently valued at $1,200,000.
So as you can see…when it comes to property investments there’s a bit of an inverse relationship between capital growth & yields, especially if another investor was looking at that property today the return would be 3.6% but for Belinda, the yield is 5.9%. To work out the yield you x 52 (weekly rent) and divide this by the property value.
We like to buy properties that have the potential for high capital growth with a good rental yield. With the potential to grow stronger either through an improvement in the property or infrastructure changes in the area. If you buy well with the right research then over a short period of time the property should turn into a neutral or positive geared investment with a strong capital growth.
If you are looking to create a portfolio or buy an investment please call Brooke Flint 0425 221 226.