A Project Will Produce An Operating Cash Flow Of Why Cash Flow Projections Are Crucial to Real Estate Investors

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Why Cash Flow Projections Are Crucial to Real Estate Investors

Real estate investors should understand how important cash flow projection is when investing in real estate. Ultimately, the success or failure of a real estate investment ultimately depends on the property’s earning potential.

The concept is straightforward. Rental properties are subject to a flow of funds through which money comes in and money goes out. When more money comes in than goes out of the asset, the result is “positive cash flow” which benefits investors. Similarly, when more money goes out than results, there is “negative cash flow” which unfortunately means that the investor must “feed the property” with personal cash to make up for the shortfall.

That’s why savvy real estate investors estimate earnings when evaluating income-property investments. They want to know if the property will generate enough cash to pay the bills over time. The investor decides that the investment is profitable enough despite the negative flows, because while they are brought front and center during the valuation, they are predictable and the investor is less likely to be deterred after the purchase.

During their rental property analysis, investors typically rely on reports such as APOD and proforma income statements for these estimates. Let’s consider the strengths and weaknesses of both.

APOD (Annual Property Operating Data) is a short income statement that is useful for real estate investors because it provides a “first-hand look” at the financial condition of the property. In a concise manner, it reveals income, expenses and cash flows. Its drawback lies in the fact that APOD only provides cash flow projections after the first year of ownership and does not contain a tax shelter. So look to the APOD to provide you with a “snapshot” of the property’s cash flow that will help you make an initial decision on whether to pursue an investment opportunity, but don’t rely too much on the APOD.

A proforma income statement, on the other hand, is a more robust way of projecting cash flows because it anticipates the financial position of the property beyond the first year of ownership (usually extended over a ten-year period). Furthermore, a proforma income statement can account for tax shelters (at least those created by good real estate investment software solutions), which enable consideration of after-tax cash flow and are important to investors because they can predict what may or may not be left over. More after paying income tax on property income. Its drawback, however, not unlike any projection, is that numbers are projections subject to many variables that can easily be skewed.

Here is the bottom line.

You should not rely on APOD or proforma income statements to provide you with sufficient information to make sound investments; There’s a lot for you to think about. Still, for real estate investing purposes, these reports can provide you with cash flow projections that you should consider before you buy a rental property so you don’t end up with negative cash flow that you didn’t anticipate–an unlikely real estate investor enjoys. .

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