Tue 17 Nov 2015

Question: When is negative cash flow a good thing?

Answer: When it helps you meet your financial goals! But how does negative cash flow help you make more money? This article will explain how.

Negative cash flow, also known as “negative gearing,” happens when you own an investment that costs you more than it earns over the course of a year. Let’s say you owned rental property that netted you $30,000 of income a year, but costs you up to $40,000 in expenses, loan repayments, and maintenance costs.  That would mean that investment has a negative cash flow of $10,000 a year.

How can that be a good thing? Here’s why: Properties that generate negative cash flow are usually located at or near stable areas with high growth potential in the future. That means property values are expected to rise in the future. Negative cash flow properties can turn a profit when the property is later sold at a much higher price than the original purchasing cost. There’s a term for this kind of profit: “Capital gains.”

When the property’s capital gains are higher than the costs to maintain the property over its period of ownership, then it’s a good investment. It’s a strategy definitely worth considering, but do make sure you’re well aware of its pros and cons.

Advantages of Negative Cash Flow:

  • When negative cash flow properties lower your income in the year, it also lowers your taxes.
  • Most of the losses you incur over the years will be more than offset when you sell the property
  • Property located near areas of high growth potential are usually less volatile

Disadvantages of Negative Cash Flow:

  • You’ll need to do some budgeting to cover miscellaneous expenses throughout the ownership period
  • Rises in interest rates can hurt your debt repayments more
  • It’s a longer-term strategy, since you normally don’t see a payoff before several years

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