Why Cash Flow Is the Foundation of Rental Investing
Cash flow is the money left over after collecting rent and paying every expense associated with the property, including the mortgage. Positive cash flow means the property puts money in your pocket each month. Negative cash flow means you are subsidizing the property out of your own funds.
For buy-and-hold investors, cash flow determines whether a property is a true investment or just a liability with an appreciation bet attached to it.
The Cash Flow Formula
Monthly Cash Flow = Gross Rental Income – Operating Expenses – Mortgage Payment
Or expressed annually:
Annual Cash Flow = Annual NOI – Annual Debt Service
Where NOI (Net Operating Income) = Gross Rent – Operating Expenses, and Debt Service = Total annual mortgage payments (principal + interest).
Step-by-Step Calculation
Step 1: Determine Gross Rental Income
This is the total rent collected per year. If the property rents for $1,800/month, gross annual income is $21,600. If there are multiple units, add all rents together.
Step 2: Account for Vacancy
No property stays 100% occupied forever. Budget 5% to 8% for vacancy. On $21,600 annual rent, a 5% vacancy allowance reduces effective income to $20,520.
Step 3: Subtract Operating Expenses
Typical operating expenses include:
- Property taxes
- Insurance (landlord policy)
- Property management fees (8%-10% of rent)
- Maintenance and repairs (budget 5%-10% of rent)
- Capital expenditure reserves (roof, HVAC, water heater)
- HOA dues (if applicable)
- Utilities paid by the landlord
Step 4: Calculate NOI
NOI = Effective Rental Income – Total Operating Expenses
Step 5: Subtract Debt Service
Debt service is the total annual mortgage payment. If the monthly mortgage (P&I) is $1,200, annual debt service is $14,400.
Step 6: The Result Is Your Cash Flow
Cash Flow = NOI – Debt Service
Example Deal
- Property: 3-bedroom single-family rental
- Purchase price: $240,000
- Down payment: 20% ($48,000)
- Loan: $192,000 at 7.25%, 30-year fixed
- Monthly rent: $1,800
Income:
Gross annual rent: $21,600
Less 5% vacancy: -$1,080
Effective income: $20,520
Expenses:
Property taxes: $3,000
Insurance: $1,500
Management (8%): $1,642
Maintenance (5%): $1,026
CapEx reserve: $1,200
Total expenses: $8,368
NOI: $20,520 – $8,368 = $12,152
Debt service: $1,310/month x 12 = $15,720
Annual cash flow: $12,152 – $15,720 = -$3,568
This property has negative cash flow of about $297/month. The investor would need to negotiate a lower price, increase rent, or bring a larger down payment to make it work.
What Is Good Cash Flow?
Most experienced investors target $100 to $300 per month per unit in positive cash flow after all expenses. Properties in higher-priced markets may cash flow less but offer appreciation potential, while properties in affordable markets often produce stronger monthly returns.
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