No Doodads (or, take off your clothes)
Do you want to build passive income and become financially free? A good way to do this is to invest in “cash producing assets.”
What are cash producing assets? They are the opposite of liabilities. Assets will put money in your pocket whereas liabilities will take money out of your pocket!
Your car is a liability; your dog is a liability; your home is a liability, however if you rent it out and the rent covers all outgoings it will become an asset!
Positive cash flow rental property is definitely a cash producing asset. Shares? These would be a cash producing asset if they were providing income.
In between assets and liabilities are “doodads!” Doodads are things like widescreen TVs, meals at restaurants, your yacht, or other things that are not totally necessary (though life would be quite boring without them)!
Our eight year old son, in his wisdom, has decided that fashion is a doodad! He is right…an excess of clothes could be classed as doodads. I had to point out to him that clothes themselves are very necessary otherwise we’d all be running around starkers! A trip to the nudist beach had him convinced!
CashFlow 101- How to Play It
In I Don’t Want to Retire Old and Broke I said how I decided to follow Rich Dad’s philosophies on real estate to escape the rat race and become financially free.
The very first step is to get financially educated. Put down that glossy magazine; throw out that new boat catalog and learn to read financial statements. To be successful in life you need to know how to look after your money.
We actually went as far as employing a successful property investor (who had the same approach as Rich Dad) to mentor us for a while. He helped us find our first rental properties in Auckland. It’s imperative that you start right if you want to build a successful property portfolio.
We also bought the game “CashFlow 101″ , an educational board game which Robert Kiyosaki built to help teach the concepts of passive income and financial freedom, to get you out of the ‘rat race’ forever.
The game takes a bit of figuring out in the beginning. Make sure you have a calculator! As you progress you learn about income statements and how to fill in a balance sheet, and the difference between assets and liabilities.
Firstly, you get given an occupation. You may draw an airline pilot, a nurse or a janitor etc (a tip here..the higher paid occupations have high expenses too and aren’t necessarily the best job to have cash flow wise). The game pieces are coloured rats; you throw the dice and the rats go around the circle (rat race), picking up opportunity cards (much like monopoly…which was Robert’s favourite game!) until you make it onto the fast track, where money is plentiful and life is easy!
The ‘opportunity cards’ are frought with peril…getting downsized, having children, the compulsary buying of doodads (money wasters like wide screen TVs or eating at expensive restaurants) can suck up all your income However, there is the chance to make a lot of money on property, shares and business!
This game can take hours to play and until you learn its lessons, it can even take days! However, once my husband made it out of the rat race and onto the fast track in the first ten minutes! (I recall he did this by having very low expenses and drawing a card which allowed him to buy some cheap shares. The next card allowed him to sell them for a huge profit so he could purchase a high cash flow business which, in turn, gave him a large passive income that covered his outgoings. Financial freedom)!
Playing this game regularly changed our spending and investment habits for life. It’s an entertaining way to learn about finance and turns a ‘dry’ subject into a motivating and fun experience.
Make sure you heed the warning on the box as, in real life, you must deal with sharks as well (tell me about it)! It says:
“Some people have gotten so excited playing this game that they have gone out and made foolish decisions. This game teaches the foundations of wealth. We recommend further education as well as always seeking competent advice before making any financial decisions.”
You have been warned!
I Don’t Want to be Old and Broke
This is where it all began about nine years ago…
Financial freedom had never even crossed my mind, until one evening my husband said “You know, we won’t have much money when we retire”.
I was floored by this remark. We were both on excellent salaries and were good savers, and we faced a government pension (if we were lucky) and an old people’s home in our old age? I was not at all happy with the idea but didn’t know what to do about it.
Interestingly, not long after I caught a snippet of an interview by Robert Kiyosaki on Morning Radio. He was talking about his new book “Rich Dad Poor Dad.” He said he had toyed with the idea of calling it something along the lines of “If you want to Be Rich and Successful don’t go to School”!! Interesting!
When I saw his book at the airport bookstore, I bought it and the journey to financial freedom (and face it, there is no true freedom without financial freedom) began:
“Rich Dad Poor Dad” is a great for someone starting out. Some people find it pretty basic but the ideas are important. Don ‘t toss it to one side. Persevere. I know some people who started with this book, who are now very rich!
His next book “The CashFlow Quadrant” digs deeper. Which quadrant does your cash flow come from? How do you get paid? Are you an employee, self employed, a business owner or an investor?
The whole idea is to build enough passive income i.e money you don’t have to work for, to cover your expenses. Rich Dad’s message basically is; to get financially free you must get your money to work for you, not the other way around.
What is the best way to do this? Rich Dad and Robert did it through real estate, so we decided we would do that too. Following Rich Dad’s rules, we started a property portfolio. The secret to success is to buy ‘below market value’ and make sure your investment is ‘cash flow positive‘. This means that the rental must cover all expenses and give you money leftover.
Apart from reading these books the other important thing is to become financially literate. If you want to be rich you need to be able to read a spreadsheet. Just knowing the difference between an asset and a liability is invaluable (one puts money in your pocket and one takes money out of your pocket…so, your house is a liability!). Controversial stuff and the cause of much heated debate.
Another good tip at this stage is to watch where your advice comes from. Free advice is often the most expensive advice. Make sure the person giving the advice has actually done it themselves. Don’t be afraid of paying for good advice if you have to.
Of course everyone has a different path and yours will no doubt be different from ours. Some people make a lot of money out of business, or out of stocks and shares. We did have a lot of shares at one stage but I wasn’t really interested enough to learn a lot about them and eaving your money in someone else’s hands is risky. No-one looks after your interests as well as you can. We did OK with shares but I was a lot happier when we got rid of them and focused on property investing. I liked property and it’s a good way to build passive income.
These were our first steps toward financial freedom. We won’t retire old and broke. Bring it on!
Photo by kevindooley
Asset Rich, Cash Flow Poor
Many people make the mistake of assuming that getting rich & financially free is all about accumulating assets.
This can be true as long as the assets are income producing (e.g business or positive cash flow real estate).
Often they will tell you that they need a fixed sum figure to retire on. There are some problems associated with this strategy. What will you do with your lump sum (if you manage to obtain it in the first place)? Where will you put it? In shares? In the bank? Little by little it will be whittled away. Have you saved enough to cover your expenses if you live to be a hundred?
Focus directly on achieving a core cash flow income and any capital gain you make is a bonus. Remember you cannot live off the money tied up in your beach house or section or boat. It can also be very hard if not impossible to access it, especially in a soft real estate & stock market like we are experiencing at present.
Every year there are businesses and individuals who have a lot of money, who go bust . The reason is that they have insufficient cash flow to cover their daily operating expenses and can’t access the equity tied up in their investments.
To understand more about the importance of cash flow read Robert Kiyosaki’s books,”Rich Dad Poor Dad” and “Cash Flow Quadrant”
Build Yourself a Business
We figured that we’d need a lot of rental properties to get us financially free. Somewhere around fifty, actually!
We wanted cash flow to live off …cash flow is the stream of money coming in from the rentals. Our initial portfolio gave good positive income but it wasn’t enough, and the market was too hot to purchase any more real estate in the meantime.
So, we decided that it’d be better to buy a business. Finding a good cash flow positive business is not easy as everyone wants one! We searched for one of these gems for two years before deciding that we would have to build one ourselves.
So, to cut a long story short, we found some business partners with experience in the campervan industry and together we built a motorhome hire company from the wheels up! It was a great exercise to build, operate and sell a business. We learnt a lot of valuable lessons, it was a nice little earner and I found I had a flair for marketing to boot!
OK, we still weren’t financially free and the income was far from passive (I processed hundreds of quotes!). If we had grown the company it had the potential to produce passive income, but we needed a huge amount of capital for that.
In general, business can be a good way to make money which you can then invest in real estate. Seeing as we figured we would need fifty houses to get our passive income up, this was going to take some doing. Our goal of financial freedom seemed as elusive as ever…
Why Positive Cash Flow is Important
If you don’t buy well and your property rental doesn’t cover all your expenses, you’ll have to make up the shortfall from your own pocket.
A positive cash flow property covers all expenses. Any spare income can be used as a deposit on your next property.
Tip: If you want to build a property portfolio it’s a good idea to get a fixed rate ‘interest only’ loan. Paying principal early on will reduce surplus income and is likely to impact on your ability to borrow and expand, as will insufficent equity.
Photo by Free Photos for Websites
Negative gearing, on the other hand, works by making a loss on property and claiming an after-tax refund for this. The trouble with this approach is that you are losing money.
We were making money with someone else’s money and we could’ve kept going except for the fact that there was a downturn in the market and it got progressively harder to purchase properties under market value.
Now the markets have crashed those good times to purchase real estate are here again. Do your sums and happy buying.
Disclaimer: These techniques worked well for us however we would always recommend getting professional advice before proceeding with any purchase.
A Twenty Thousand Dollar Weekend
Another way to make money out of real estate is by buying and selling again for a profit.
If you want to be financially free don’t do this… you need cash flow. A true investor buys and holds.
The only reason we decided to ‘do-up’ and sell our next property was that it was ‘border-line’ positive cash flow and we couldn’t find any way to get more out of it. The section wasn’t big enough to add a minor dwelling to.
It took us a week or so to clean up the house…paint, carpets etc and a bit of landscaping. See the difference! And we sold it for a good profit.
We first heard about this technique from Dolf de Roos. He referred to it as a $20,000 weekend (or week in this case!).
Don’t do this too much or the IRD will regard you as a trader and come after you! (In NZ anyway!)
Not bad, huh?
I Don’t Have Enough Houses!
Still on the search for ‘positive cash flow’ property and the second one was much harder to find. It seemed all of Auckland had been at Dolf de Roos ‘ three day property seminar that I had attended! We would have to be creative.
My husband had a brainwave. He ‘letter dropped’ the area we were interested in and, despite being chased by a crazed man growling like a dog(!), his plan worked.
We had two replies and bought another house just down the road from the first. This one had a large section so we were able to add a three bedroom minor dwelling and ‘hey presto’, another stream of rental income. Having two streams of income like this means less risk. Should one lot of tenants move out unexpectedly, you will still have some money coming in.
A note on this strategy is when you come to sell, the property will mainly be of interest to investors. They will want a bargain! So, don’t sell!!
What is Positive Cash Flow Property?
A positive cash flow property is where the rental income exceeds all associated costs, preferably before tax.
(‘After tax’ returns may well be higher taking allowances for depreciation and tax deductions into account).
To work this out make up your own spreadsheet or download one from the internet. Dolf de Roos is one well known property investor I know of who sells software for doing this.
Your spreadsheet needs to include the following:
- Interest and loan costs
- Insurance
- Maintenance
- Rates
- Bank and accounting fees
- A property manager (if you employ one)
We employed a property manager and she was worth her weight in gold. Many investors end up selling their rentals as they find the upkeep and tenants too much of a hassle. Cost it into your spreadsheet…let a professional deal with the problems! It’s worth it.
Here are some photos of our first purchase. It was a house with a minor dwelling at the back. Two streams of income reduces your risk.
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