Adding down payment is not the correct way to manage risk management. It only brings the biggest risk at the beginning. Miat42, I admire you consistently helping people here, but your methods are really dangerous to people, especially new guys in the rental business. Some of the biggest pitfalls include that you never put the down payment into the balance sheet, which puzzled me all the time, cash flow, according to its definition is the change in the balance sheet. All your down payment money you got are gifts.
It’s good that you mentioned risk management, but not good after your first sentence. In risk management, you have to analyze P&L summary, you have to know your assets positions and liability positions. you have to calculate profitability, liquidity, solvency, credibility, … and many other parameters. But your way by adding down payment will only make those worse. The graph above was the tool I designed and developed, and used by many companies including PIMCO, Zais, Sankaty,… in risk management.
Cash flow is just the change in balance sheet, the purpose of it is for short term activities, such as pay your bills.
Profitability is the most important when people asked whether it is a good investment. Rental business can be profitable without being solvent, for example, down payment to buy new properties. Landlords can also be solvent even while losing money, for example sacrifice future cash flow. Down payment can only make it more insolvent, but it could result in more profitable or less profitable.
A landlord has to go bankrupt when it is unprofitable and insolvent.
For better manage the risk, you have to avoid risk, eliminate the risk, reduce the risk, mitigate the risk, transfer the risk to others, and accept and budget the risk when there is no other choice. We have to use credibility analysis to avoid and reduce the risk, and use liquidity analysis for risk transfer and retention.
But your way by surrendering all the money at the beginning is like killing yourself for a life; is like risk the most to avoid further risk.
(The picture was made small on purpose to hid confidential data)
