Cash flow and capital gains


  • James Walker III is a licensed realtor with an estimated $1 million real estate portfolio.
  • He broke down the pros and cons of cash flow versus capital gains investing strategies.
  • Walker prefers to focus on cash flow for its tax advantages and reduced market risks.

Officially, James Walker III makes his living as a corporate mergers and acquisitions lawyer – but that’s just one of many hats he’s worn throughout his life.

Walker has also been a bit of a handyman since growing up in Connecticut, when he got up at 7:00 a.m. every weekend to help his parents fix, clean, and manage their rental properties. He’s also been an entrepreneur since starting his first snow removal business at age 12, earning extra money while in college by cutting his hair and starting a moving and ride-sharing business.

Now 27, Walker has been a real estate investor and landlord for five years, and is also a licensed realtor in Maryland. In 2022, he officially achieved his goal of acquiring $1 million in real estate – four years ahead of his original goal.

Walker bought his first property for $350,000 in 2017 when he was just starting law school, opting to live in one of the bedrooms while renting out the others to other students. The Maryland home, located just a mile outside of DC, has likely appreciated significantly since he bought it, Walker believes. Last year, Walker’s purchase of a condo in Brooklyn for $549,000 officially tipped his


net value

investment properties around the $1 million threshold, he estimates.

James Walker III in his Brooklyn apartment.

Walker in his recently purchased apartment in Brooklyn.

James Walker III


Even though the value of his first property has appreciated over the past five years, Walker chooses to focus his real estate investment strategy on generating cash flow on


capital gains

.

As he breaks it down, there are two traditional schools of real estate investment strategy. Investors can either focus on generating cash flow, such as through passive rental income, or capital gains, such as through a fix-and-flip.

For both strategies, Walker stressed the need for investors to understand the amount of demand in a specific area by conducting market research and studying housing trends in a specific area. “It’s one of the biggest things people don’t do when they talk about investing in real estate,” he told Insider. “The information is there, but I don’t think people see the value in it.”

That information, he said, can be as simple as reviewing publicly available data online, such as U-Haul moving trends, driver license issuances and new job statistics.

The capital gains strategy

When focusing on capital appreciation, investors should focus not only on increasing home value, but also on finding a buyer-friendly community, Walker said.

“Especially as an early stage investor, you don’t want to be the first to try to get back into an area. You want to get into an area where you see other investors coming in; that’s your indicator that it’s This is an area that is in the making,” he explained. “You want to get into a community where you can benefit from other funds that are coming in at the same time.

Indeed, as more and more investors flock to a specific area, the likelihood of new private – and often public – investment is high. This means additional improvements for retail businesses, public amenities and infrastructure. However, there is a tipping point where a sustained increase in investment in a targeted area can lead to gentification and a spike in rental prices, meaning existing residents of a community could become unaffordable.

But in terms of improvements to a specific property, a comparative market analysis is particularly relevant for investors interested in repair and turnaround, because the price of an additional bedroom or bathroom differs from one city ​​to another.

“One of the biggest mistakes people make is they don’t understand what price they should be buying the property for when they’re trying to flip or when they’re trying to rehab an investment property,” he said. Walker. “It keeps them from not having done their market research. They flip the property and there’s no buyer.”

At some point, the added value of each additional dollar invested might not yield the same ratio of earnings, he explained. “The biggest mistake people then make is buying the property for too much, and that’s because they don’t understand its after-repair value,” Walker said.

As an industry standard, investors generally aim to buy a home for no more than 70% of its Value after repair, or ARVs. But often they don’t fully account for all other possible costs in their budgets, including emergency repairs, unscheduled renovations, listing fees and taxes, leading to lower returns, said Walker.

The cash strategy

For investors whose primary focus is passive cash flow, Walker suggested looking for an area with both high migration and a shortage of existing housing. These two factors combined will lead to an increase in rental needs, he explained.

Investors should focus on a property’s specific location near business and education districts, where universities, subway stations, grocery stores and parks would be found, especially since some areas might fetch more rent per square foot or per room. Such infrastructure and attractions will contribute to “consistent access to quality tenants,” Walker said.

However, that doesn’t mean investors can’t find opportunities in areas that may not have as many amenities, Walker added. “What I’ve found is that you can attract a certain type of tenants because they’re more comfortable coming to an area that maybe isn’t as fast,” he said. -he explains.

At a minimum, Walker recommended real estate investors seek a 10-20% return on their rental properties. By foregoing a property manager and directly overseeing each of his properties, Walker was able to cut overhead to maximize profits, he said. It has also been able to stay competitive with tenants by continuously and frequently updating devices to “meet market standards”.

Why Walker Prefers Cash Flow

Even though factors like rising property taxes and ongoing maintenance can affect a property’s cash flow, Walker still prefers the cash flow strategy because he believes it’s less sensitive to market trends. .

“If the value of the house goes down – maybe you can’t raise the rent, or your rent is even reduced a bit – but typically you own the property and you make cash flow from it, so it doesn’t matter if the value goes down,” he explained. “The value of the house that goes down only really matters when you’re going to sell it.

Additionally, Walker recommended starting with the cash flow strategy because it inherently carries less risk than the over-indebtedness needed to fix and flip a house.

“I just don’t want young investors going into these very aggressive loans without the knowledge, experience and financial backing,” he said. “I strongly suggest you start small.”

And like all assets, investors must pay taxes when they realize a capital gain on real estate. According to Walker, investors can also benefit from the cash flow strategy through its tax benefits.

“When you go in and do a quick flip, it can be taxed as a short-term or long-term capital gain. Depending on how long you hold it, how long it takes you to do the flip, and state you’re in, capital gains are taxed at a higher rate than cash flow or passive income,” Walker said.

Due to passive income taxes, investors can sometimes suffer a loss on their real estate profits. But once those taxes are offset by property depreciation or repair and utility costs, investors can walk away with a “passive loss“, which they can use to reduce their overall taxable income by up to $25,000 as long as their adjusted adjusted gross income does not exceed $100,000.

Investors can also use a passive loss to offset a capital gain so they no longer have unpaid tax debts, Walker said. “It’s called tax planning – many people create capital gains to take advantage of their passive loss,” he added.

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