Discover whether cash flow or capital growth is the better real estate investment strategy. Learn how to build wealth, retire early with real estate, and navigate the three stages of property investing: accumulation, consolidation, and freedom.
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One of the biggest reasons people invest in real estate is to:
So, should you be buying property purely for cash flow, or should you be prioritising capital growth?
In this article, I’m going to break down exactly what we should be looking at when evaluating property.
If you're interested in what my thoughts are, definitely keep reading.
Now, what does it actually mean to retire early with real estate?
Ideally, what you want is your passive income, generated from real estate (or "the machine," as I like to call it), to take care of all of your expenses.
Imagine not having to get up on a Monday morning to go to work because all your investments generate the cash flow you need to take care of all your expenses.
This could include:
So, based on that, one would think the most logical idea would be to buy a property that gives you positive cash flow — the highest-yielding property — and you should be set. That should be the fastest way to get there, right?
This is where a lot of investors get caught out because you don’t really start with a strategy.
You're just thinking, "I need to generate passive income to cover my expenses, so the fastest way to do that is to buy a high-yield property."
Well, no, because:
If that makes no sense to you, it means you don’t have a strategy down on paper.
This is the sort of stuff I can help with. There are so many videos I uploaded on my YouTube channel about this, so definitely subscribe and check those videos out.
The three main stages that investors go through are:
Now, you can name these whatever you like, but the idea is that in accumulation (stage one):
This is the "D-word" that most people don’t like — debt.
When we talk about debt, we're talking about productive debt. If the debt is attached to an asset that’s going to appreciate, the debt attached to that property becomes irrelevant.
An example of this would be purchasing a property for $400,000 that, ten years later, is now worth $700,000, but the debt on that property hasn’t changed.
Initially, you needed about $360,000 in debt to buy the property, and even today, when the property is worth $700,000, you still owe $360,000.
Now, if you used that debt for unproductive reasons, such as buying a car worth, let’s say, $60,000, the car’s value would depreciate, and in five years, while your debt might slightly reduce, the car would be worth significantly less. This is considered unproductive debt because it’s attached to a depreciating asset.
Properties, on the other hand, usually appreciate.
In accumulation, you might ask, "If I need to acquire debt, and I want passive income, why wouldn’t I prioritise cash flow?"
The reason is that you're in the game for a long period of time. When building your foundation:
Imagine owning five high-yielding properties, but in 10 years, after expenses and taxes, you’re not much further ahead. Compare this to owning two or three high-growth properties, and you'll likely be in a much stronger position in 10 to 15 years.
To put this into perspective, if you bought a $500,000 home and it grew by 7%, in 15 years, it would be worth nearly $1.3 million.
If you instead bought a $500,000 home with excellent cash flow in a rural town that only grew by 4%, in 15 years, it would be worth $900,000. That’s a $400,000 difference!
Therefore, it depends on your age and when you need the cash flow. If you prioritise yield too early, you won’t get the growth that allows you to accumulate wealth through equity. You could use equity from one property to purchase multiple properties.
Based on that, you might say, "Okay, Ravi, you’re suggesting we prioritise growth." But, that’s not what I’m saying. What I’m saying is: You need a balanced approach.
Let's say you go down the path of buying something that's all about growth, and you don't care about the yield. Well, what's going to happen is two major things—big roadblocks that stop a lot of people from scaling up.
Your holding costs will be unbearable. Imagine having one property that costs you, say, $20,000 to hold. You might only be able to hold one, maybe two properties before it affects your lifestyle, and you can no longer hold more properties.
Let's say you go and buy a property; the banks are going to assess you not at the current rate, but with an added buffer rate. So in their eyes, you're not just negative by $20,000—it's more like $25,000 or $26,000.
Now, let's say these two things affect you. You're now going to be stuck with maybe one or two properties. This is why I like to approach it with a balanced mindset. I want to go in and buy a property that's going to have good growth, but I don't want to go into an area unless it has good yields.
The reason why they will have good yields is by looking at the short-term and long-term metrics of why people want to rent in this location.
Is there a shortage of rental properties and good quality rental properties?
Is it an area that continues to grow?
Why? Because if it's an area that continues to grow, owner-occupiers are going to say, "Well, okay, my property is growing in value. I'm not going to sell," and they hold on to their properties. Renters then can't afford to get into those properties because the prices continue to rise. So the next best thing is to rent in that market, and if there’s no incoming supply or very little supply, you'll find that not only will you experience rental growth, but you'll also experience capital growth.
So let's say you go ahead and build your foundation with these bread-and-butter properties that give you both growth and rental growth. Then, you decide to move into consolidation—this is stage two.
Consolidation is where you say, "Okay, I've got everything I need. My target of $100K or $150K passive income is in sight. I'll get there in about 12 to 15 years."
Fantastic.
The next part of this is going to be reducing your debt. You might want to consolidate your positions, which could mean selling two high-growth properties for three properties that offer more high cash flow.
At the end of the day, don’t get this wrong. But, it's very important point to note that:
I spoke to someone just a week ago who has one property, which is their principal place of residence, and it’s grown a lot. It’s in Sydney, and it has been growing steadily because they’ve held it for about 30 years. They got into the market at the right time; it’s in a really nice area.
However, if she were to leave that property, she would have to sell it to buy anything else. She has no intentions of doing that.
She also has another property in Sydney, which she bought 20 years ago. In this case, her property is an investment property, but the yield on that is a mere 2%. The reason she holds it is because she’s seen growth over time, she’s never borrowed against it, and she bought it 20 years ago.
However, she’s now looking at her situation and saying, "I need more cash flow. I can’t retire on this one property yielding 2%." She’s also asking our team for help, saying, "If I sell this property, what can I do with this money?"
What she’ll be able to do is go from a property that probably gives her about $1,000 in cash flow to owning multiple properties, diversifying her risk, reducing her land tax, and increasing her cash flow to between $1,500 and $1,800 a week.
During the consolidation phase, you may also find yourself renovating some of your properties to increase the cash flow. You might explore development opportunities, whether it’s to create an extra bedroom, add granny flats, or other things like that. This is where people often go wrong, because they don’t have a strategy.
Think about it: if you allocate your money too early on toward granny flats and renovations, you won’t have enough money to secure more assets. Acquiring and accumulating assets is the whole idea of stage one.
My example is this:
I have properties that need to be renovated, but instead of renovating them or increasing the value of that one property, I’m still only going to hold that one property.
If I can right now, and the banks aren’t changing their rules anytime soon, and the government allows you to purchase investment properties, I would much rather purchase another investment. Then, in my consolidation phase, I can renovate anytime I want.
When I renovate, what will happen is:
This stage is pretty easy to understand—it’s freedom. It’s when you’ve actually got more passive income than needed to cover all of your expenses. It’s essentially where you want to get to.
As you can probably tell from this article, I’ve mentioned how you can make mistakes, and I’ve mentioned how you should take a balanced approach.
What does a balanced approach look like?
Where do you find properties for $500,000 to $600,000 that still yield 4% to 5% as a minimum?
That’s where we come in at Search Property. I’d love to help you and connect with my community.
If you’re interested in getting help, I urge you to start making those moves before we start seeing interest rate cuts. Definitely contact our team by booking a FREE discovery call, or you can go ahead and visit our website to learn more about us.
I hope you guys have enjoyed this article.
I’ll catch you guys in the next one. Thanks, guys!
Disclaimer: Search Property Pty Ltd (SP) does not provide financial or investment advice and does not hold a financial services license as defined in the Corporations Act 2001 (Cth). Any advice given by SP is general in nature and does not take into account your personal circumstances or objectives, financial situation or needs.
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