Why Negative Cash Flow
Often Can Be Acceptable

Question: I am looking for my first rental property, but I'm having a hard time finding a two-bedroom house that will produce enough rental income to cover my costs. Most of the homes I've found would leave me $100 to $200 short each month. If I find a solid house that doesn't require any major work, is this a reasonable monthly deficit or will it be an "alligator" over time?

-- Lorraine, Seattle

Lorraine: You are wise to be wary of alligators, or properties with a large negative cash flow. Often you can get into them for a reasonable price, but then the high monthly payments "eat you up!"

A couple of hundred dollars usually isn't considered a big negative, but it all depends on your financial situation. Keep your eye on the rate of appreciation. If the property is appreciating by $10,000 each year, $2,400 of negative cash flow isn't all that much. But if the figures are reversed -- $10,000 of negative cash flow and $2,400 of appreciation -- it's a different story. Remember that the goal always is to make a profit. If you must absorb a bit of negative cash flow now to get a solid profit a few years down the road, you may want to consider taking the plunge.

Also remember that rental rates tend to rise over time in most areas. If Seattle follows suit, you should be able to increase your rents to cover the $100 to $200 in negative cash flow in just a few years.

Mr. Irwin has more than 25 years' experience as a Los Angeles-area real-estate broker. He is the author of more than two dozen books about real estate and is recognized as one of the most knowledgeable writers in the real-estate field. Mr. Irwin's most recent book is "Tips and Traps When Renovating Your Home," (McGraw-Hill, 2000).

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