In real estate investment (and finance in general) there’s often a raging debate about which is better: cash flow or net worth? The truth of the matter is that we need both to truly succeed in our real estate investment ventures. When we look at lists of the richest people in the world, they’re often ranked solely by net worth.
But would that even be possible if they, at least most of the time, did not have strong cash flow?
The two go hand-in-hand. With that said, net worth is important for real estate investment success.
Why Does Net Worth Matter in Real Estate Investment?
First things first — what exactly is one’s net worth? It’s very simply the value of your assets minus the cost of your liabilities. These liabilities are things like debts, mortgages, and other payment obligations.
But really, why does net worth matter? There’s plenty of debate surrounding the importance and reliability of the metric, especially as times and financial wisdom evolves. Motley Fool makes it pretty clear: lenders look at net worth, particularly where real estate and commercial loans are concerned. A high liability hurts your net worth (even putting it in the red), and that’s a red flag for lenders.
They may give you a higher interest rate if not deny your application outright.
As real estate investors, too, a net worth exceeding $1 million means that you can become an accredited investor. This designation further opens up more exclusive investment opportunities. In short, higher net worth means better lending deals, exclusive investment opportunities, and access to more lines of credit.
The debate between net worth and cash flow is moot — they go hand-in-hand and both are necessary for unlocking your full wealth-building potential.
Scale Your Real Estate Portfolio, Build Net Worth
Net worth is often our measure of wealth in the world. For real estate investors, the quickest way to increase your net worth is to acquire more properties. Increasing net worth is incredibly simple in this business.
Building Net Worth in 3 Steps:
- Acquire rental property via bank lending
- Use cash flow from said rental property to pay off the mortgage
- Repeat
Investors who target single-family rental properties are in a great position to build their net worth. The beauty of real estate investing is in leverage. Through leverage, you can acquire properties for far less than their appraised worth. Once you have that property, it contributes to your net worth.
Naturally, the mortgage is a liability that detracts from it. However, investors are in a unique position. Rather than paying off this mortgage out-of-pocket, the resident’s rental payments pay it down for you! Naturally, the expenses associated with managing investment properties and the liability of a mortgage will make your cash flow seem small — at least in the beginning.
However, over time, that cash flow grows and the property appreciates. Your net worth increases as liabilities diminish.
Investing in Real Estate is a Long Game
As real estate investors repeat the process of acquiring properties and paying off mortgages, they’re able to grow their net worth exponentially while only using a fraction of their own money. Of course, this takes time. Real estate investing is most successful when it is played as a long game.
Be sure to check out: Manage Risk By Investing in Real Estate Long-Term
However, passive real estate investing is a way to grow both net worth and cash flow. Other methods mean you focus on one or the other — be it flipping houses or squirreling money away in a 401(k). While it’s true that you can grow both through dividend-paying stocks, the drawback is that there’s no leverage to take advantage of. Real estate investors can scale a portfolio — and their net worth — more quickly thanks to leverage!
Investors, take your time. Growing net worth and cash flow won’t happen overnight. It doesn’t happen with one or two properties. It takes time to build up to something substantial and worth your while. Be intentional, strategic, and ever-diligent in your investment strategies. In time, it will pay off. Net worth may not be the only important metric in real estate investment, but it is a major player in determining where your wealth truly stands.
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