How to Count it #4 – Cashflow vs Profit


This one is more for the ones who are before the FIRE and still accumulate. When you try to increase your wealth you can or you could be ready to use a leverage. What do I mean by that? Just let’s see that on example. And figures are simplified….

1. Purchasing a rental property

Smaller 1 bed-room flat around 50m2 would cost (around my city) around EUR 200k. Typical donw-payment is 20%. So to structure it:

  • Price: EUR 200k
  • Down-payment for mortgage: EUR 40k
  • Mortgage: EUR 160k
  • Monthly mortgage payment: EUR 600
  • Monthly rent from tenants: EUR 600
  • Taxes and other fees: EUR 100
  • Final net rent: EUR 500

2. Cash-flow view

Profit-wise this whole situation looks pretty bad. You have to put EUR 40k into a flat and then you get “minus EUR 100” per month. That looks bad. So if you are already FIREd, you do not do this. Because you try to maximise the cash-flow for your monthly spending…

3. Profit view

This looks better. Just count with me:

  • Revenue from flat:
    • Annual value growth (1,5%): EUR 3.000
    • Rent from tenants net: EUR 6.000
  • Costs
    • Interest paid first year (2% p.a.): EUR 4.000
  • What is the profit then?
    • EUR 9.000 – EUR 4.000 = EUR 5.000

That looks awesome, right? But what happened with money what you pay for mortgage? These are not costs, the break-down is below, all monthly figures:

  • Paid mortgage – EUR 600
  • Interest – EUR 333
  • Paid principal – EUR 267

So those EUR 600 are not costs, that is simply certain cash-flow figure. You have to always break it down to interest and principal in each year ideally.

Still not clear where do I head? Do not worry… Let’s sum it up:

  • Day 1 of the purchase
    • Assets
      • Invested own money: EUR 40k
      • Value of the property: EUR 200k
    • Liabilities
      • Mortgage: EUR 160k
    • Owned value:
      • EUR 200k – EUR 160k = EUR 40k (no surprise, that has to equal to down-payment of 20%…
  • After 1 year
    • Assets
      • Invested own money: EUR 40k
      • Value of the property: EUR 203k (1,5% property growth in value)
    • Liabilities
      • Mortgage: lower by EUR 267 multiplied by 12 months:
        EUR 3.200. That is EUR 156,8k
    • Owned value
      • EUR 203k – EUR 156,8k = EUR 46,2k

So what is the profit after one year? EUR 6.200 net, calculated after taxes and other fees. Not bad? And this is the first year, every other year the profit growth, because interest on mortgage is lower (thanks to paid principal) and rents grow (long-term wise).

4. And in percents?

Now it is time in calculate the profit in percents. So what are the numbers behind that:

  • Down-payment: EUR 40k
  • Money invested thru the year: EUR 100 per month (see the cash-flow calculation above), that is EUR 1.200 for one year
  • So by the end of the year it looks like
    • Net profit: EUR 6,2k
    • Invested money: EUR 41,2k
    • In p.a. that is: 6,2/41,2 = 15% p.a. in the first year.

It usually gets 5 years to make the flat be on some 40% LTV (loan-to-value ratio), so in 5 years you can use this flat as a pledge for another flat and not having any down-payment at all… how wonderful!

Any questions? Comments? Feel free to ask!

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Categories: how to count it

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