5 Powerful Truths about Cash Flow in Real Estate Investment

Ever wondered why not everyone gets into real estate investing?

The solution may surprise you: it’s all about cash flow, a notion that’s often misunderstood and underappreciated. Cash flow, or the net amount of cash going into and out of a property, is fundamental to real estate investment. It is more than a profitability metric; it is the driving force behind an investment’s success or failure. Positive cash flow signifies a property’s ability to generate surplus income, crucial for covering expenses, reinvesting, and securing loans.

However, the surprise is the detailed computation of cash flow, which reveals the possibility of positive and negative flows. Understanding and optimizing cash flow is critical, but its not complicated, as a matter of fact, quite simple, but the nuance come with it hinders many.

What is Cash Flow In Real Estate?

Cash flow is the income from the property where all expenses have been taken out. There are two different types of cash flows: positive and negative. Positive cash flow occurs when the rental income exceeds the total amount spent on the property. This includes the mortgage, taxes, insurance, repairs, and property management fees. Negative cash flow occurs when the total amount spent on the property exceeds the rental income.

Cash flow is the money an investor makes from a property or investment. This money can then be used to reinvest into more property or to pay expenses. An investor gets into the property game mainly for the steady cash flow.

To calculate the cash flow, you must subtract the total rental income from the total property expenses. Expenses used for the calculations include payments for the monthly mortgage, property taxes, insurance fees, maintenance costs, and property management fees. 

Several things can cause a large or small cash flow. Some of these things would be the rent or expenses from the real estate, cash coming in, loans going out, and cash reserves set aside. All these factors can affect the amount of cash you have and the amount you will get. Getting the cash invested is only part of the process; keeping up with how it comes and goes is what keeps it complete.

Why Cash Flow is Important?

There are several reasons why cash flow is crucial in real estate investing. One major reason is the fact that cash flow provides profitability. Positive cash flow provides investors with a steady income stream from rental properties. In addition, positive cash flow allows investors to cover operating expenses and mortgage payments. Positive cash flow also allows investors additional funds for reinvestment and property improvements.

For example, a rental property that has $2,000 in rental income and $1,500 in expenses each month will generate positive cash flow of $500.

Cash flow is also used in various investment calculations. For example, cash flow determines the property’s return on investment (ROI), cash-on-cash return, and net operating income (NOI). In addition, cash flow is crucial when determining if you can even finance future investments. You and your investors (if any) can also use it to assess the financial health of the overall portfolio.

Additionally capital expenses are tax deductible, such as property updates, repairs and maintenance, this will not only mean that taxable income is lowered, but it also will improve the property’s operations allowing a higher market value which will attract more business activity giving a better ROI over time.

Equally positive cash flow makes it easier to secure financing for future investments since investors may qualify for more favorable terms on their loan if the projected rental income on an investment exceeds operating expenses. Conversely, negative cash flow can lead to financial trouble and maybe the eventual loss of an investment, so it’s important to perform your due diligence when evaluating potential rental properties.

By conducting proper market research and analysis, investors greatly reduce the chances of investing in properties with little or no cash flow potential, ensuring long-term profitability in their real estate portfolio.

How To Calculate Real Estate Cash Flow?

To calculate real estate cash flow, you would first calculate the property’s gross rental income. The gross rental income is the property’s rental income collected from the tenants. Second, you would calculate the total expenses of the property. Total property expenses would include property management, maintenance, insurance, property taxes, etc. Next, you would subtract the total expenses from the gross rental income to calculate the cash flow’s net operating income( NOI).

For instance, if a rental property brings in $5,000 per month in rental income and has $1,500 per month in expenses, the NOI would be $3,500 per month.

Finally, subtract the monthly debt service or mortgage payment from your gross scheduled income to determine the net after-debt cash flow. This is the amount of leftover money, which I call cashflow after she’s made her mortgage payment.

For example, if the property’s monthly debt service is $1,200, the net cash flow after debt service would be $2,300.

Category	Details	Amount
Income
Gross Rental Income	Sum of all rental income from tenants	$5,000 per month
Costs
Total Property Expenses	Management, maintenance, insurance, taxes, etc.	$1,500 per month
Monthly Debt Service	Mortgage payment	$1,200 per month
Calculation
Net Operating Income (NOI)	Gross Rental Income – Total Expenses	$3,500 per month
Net Cash Flow After Debt Service	NOI – Monthly Debt Service	$2,300 per month

Real estate cash flow can be calculated using the Net Operating Income (NOI) Method which is the gross rental income less total property expenses and/or debts.

What is a Good Cash Flow in Real Estate?

Solid cash flow depends on several criteria – the type of investment, the location, the long-term growth strategy and the purchase price. A single-family home has different cash flow criteria than a multi-family unit or a commercial property. The property’s location also plays a big role, especially in a high-demand or rapidly growing area. Finally, long-term strategies tend to enhance appreciation and rental income growth potential while they may lower cash flow in the near term. Traditionally, monthly cash flows of $100-$200 per unit are considered solid cash flows. However, it greatly depends on the acquisition price, impacting your ROI. That said, keep reading as we share some basic rules of thumb.

The 10% Rule

Calculating the cash flow on a rental property is crucial when evaluating properties. Many forget that they must make some profit on each property even if it is little, but they add up. Most real estate investor calculates at least 10% yearly cash flow based on purchase price.

Let’s take an example of $250,000 property, 10% will annual cash flow is $25,000 and that should be at least $2,083 per month.

There are many ways to analyze a rental property. I like easy and quick rules of thumb.

One such is the 50% rule.

Basically, the 50% rule tells us that the net income from an SFH investment should be 50% of the gross income minus the mortgage payment. In other words, the rental income, less a 50% estimate for operating expenses and property management, must cover the mortgage.

In our example, a $2,000 monthly rental, means $1,000 would cover the mortgage, property management and expenses; thus the remaining $1,000 would be the net income available for the investor’s profit.

Transitioning to the 1% Rule 

which is reflective of today’s real estate investment environment. The 2% rule was more common during the 2008 financial crisis. At a time when property values were drastically lower, achieving a 2% return on an investment property purchase price was not uncommon.

Today, however, with property values soaring, achieving a 2% monthly return based on the purchase price of an investment property is not a common occurrence. Consequently, the 1% rule.

This rule indicates the property should generate a monthly return equal to or greater than 1% of the purchase price.

For example, if a property is purchased for $100,000, the 1% guideline would suggest the property should generate at least: $100,000 x 1% = $1,000 per month. This adjusted benchmark better speaks to the current real estate investment environment where a 1% investment return is generally accepted as reasonable.

RuleDetailsCalculationExample Figures

Rule	Details	Calculation	Example Figures
10% Rule	Annual cash flow should be at least 10% of purchase price	Purchase Price x 10% / 12	If purchase price is $250,000, annual cash flow target: $25,000, Monthly: $2,083
50% Rule	Expenses are estimated to be 50% of gross rental income, excluding mortgage	(Gross Rental Income / 2) – Mortgage Payment	If gross rental income is $2,000 and mortgage is $300, Cash Flow: $700
1% Rule	Monthly income should be at least 1% of purchase price	Purchase Price x 1%	If purchase price is $100,000, Monthly Income Target: $1,000

How to find positive cash flow properties?

It would be best to look for a few important things when trying to find properties with good cash flow. The location is crucial. Ideally, you would want your property to be in a high-demand area that is currently experiencing high job growth and your population consistently growing. This ensures a solid tenant pool for years to come and the potential for higher rental income. Additionally, consider any legal restrictions that may impact your ability to rent the property, such as zoning ordinances or rent control laws.

Market Selection

• Location Is Key – Location, location, location! In real estate, the right location is key. A good location can build the success of your investment. Areas near schools, colleges, or areas experiencing industrial growth have constant tenant pool and cash flow. It’s also important to use tools like Zillow or Realtor.com to determine potential investment returns on prospective geographical areas. Also, determine if the area has many foreclosures or high rental rates. 
• Utilize Data Analysis Tools – Platforms such as Zillow and Realtor.com can simplify identifying lucrative areas by displaying crucial metrics. Features like advanced search filters allow investors to pinpoint properties with attributes conducive to positive cash flow, such as high rental income and strong occupancy rates. For example, Zillow’s rent Zestimate is a quick and easy tool for estimating rent in the area. Rentometer is another useful tool that gives you specific historical and recent rent data around your property.

Property Search Process

• Offline and Online Search – Start with the For Sale By Owner (FSBO) signs, distressed properties, and local advertisements, then go online, such as Zillow/ Realtor.com and put in desired property criteria like city and how much money you want to invest.
• Budget Preparation – Ensure your budget aligns with your goals, covering mortgage payments while aiming for cash flow positivity. Decide on the property type – condo (usually comes with rental ratio restrictions), multi-family, or single-family homes – and research which offers your target market the best cash flow potential.

Investment Property Analysis

• Conduct Thorough Analyses – Do the homework, including the CMA (Comparative Market Analysis) and rental property cash flow analysis as a tail check and a quick way to make sure it is a deal is using a financial calculator or many investing-focused websites that list key metrics and will tell you if the property meet the basic cash flow requirement. Many investors love the BiggerPockets calculator, but if you’re starting up, some simple spreadsheet calculation is fine, too.
• Engage an Investor-Friendly Agent – Especially if you’re new to investing, a knowledgeable real estate agent can guide you through negotiations, secure favourable deals, and assist in running CMAs and cash flow analyses.

Identify Income Increase and Cost-Cutting Opportunities

• Increase Rental Revenue – Evaluate for opportunities to increase rents without surpassing current market value. Consider enhancing the property with amenities or services tenants highly value, such as in-unit washers, dryers, or parking, which would justify higher rents.
• Lower Operational Expenditures – Explore facility upgrades that enhance energy consumption, renegotiate supplier contracts for better rates, and employ cost-effective maintenance routines.
• Improve Property Management – Determine whether to self-manage or partner with a property management company, depending on which option best enhances returns. Cost reductions and workflow organization resulting from productive management are major profit drivers by decreasing turnover and ensuring operations occur efficiently.

Now that we’ve navigated the intricacies of finding properties poised for positive cash flow, it’s time to shift our focus towards the mechanics of cash flow creation within real estate investment. This next section will guide you through actionable strategies to enhance cash flow, ensuring your investments sustain and thrive.

Let’s explore how property management and strategic financial planning can unlock the full potential of your real estate assets.

How do you create cash flow in real estate investment?

Cash flow in real estate investment can be created by identifying possible income streams. These might include rental income, parking fees, or laundry revenue. To accurately determine the gross income your property can achieve, add up all these prospective streams. Then, make sure you optimize all the expenses with care. Included within the total are things like property taxes, insurance, maintenance, and property management. Any associated debts must also be factored in (for example, mortgage payments). Here’s a breakdown of things you could do to increase cashflow:

Strategically Buy at a Low Price

• Discount Purchases – Emphasize buying properties below the list price to establish immediate positive cash flow. In hot markets, strong negotiation skills are essential.
• Loan Negotiation – Reduce monthly liabilities by securing favorable loan arrangements. Refinancing at an inferior rate can have a direct impact on cash flow.

Optimize Rental Income

• Rational Rent Increases – Keep rents attractive, but don’t risk vacancies; justify higher rents in increments after property improvements. If you have to choose, rent will be lower over vacancies. Feel free to do the maths yourself ; )
• Value-Add – Maximize property value by relatively low-cost renovations, conversion to furnished rentals, or evolving to seasonal rental or short-term business model for greater revenue.
• Additional Amenities – Implement services like laundry facilities or bike storage, providing tenant convenience while boosting income.
• Consulting and Management Services – Leverage your property management or renovation expertise to offer consulting services to other investors for a fee.
• Government Funding – Research and apply for government grants or programs that support real estate investments, renovations, or down payments.

Efficiently Manage Expenses

• Cut Down Costs – Thoroughly analyze areas of high expenses for savings opportunities. Optimize utility expenses and maintenance costs to ensure efficient operations.

Ensure Continuous Tenancy

• Quality Tenant Retention – Focus on maintaining high levels of tenant satisfaction to minimize vacancies and ensure consistent rental income.
• Lower Rent Over Vacancy – As mentioned earlier, sometimes, slightly lowering rent to keep or attract tenants quickly is more beneficial than enduring prolonged vacancies, which can significantly impact cash flow negatively.

Top 10 markets for cash flow in 2024

The top 10 markets for cash flow in 2024 based on factors such as rent-to-price ratio, median “owner-occupied” sales price, and median rent price are a mix of cities from Texas, the Midwest, and the Southeast, providing geographic and economic diversity.

Below is the data analysis done by BiggerPockets; Dave did a great job deep-diving into this for 2024. Click here to hop over there for more detailed reading. Here’s a detailed look at these markets:

City/State	Rent-to-Price Ratio	Median “Owner-Occupied” Sales Price	Median Rent Price
McAllen, Texas	0.84%	$94,600	$799
Odessa, Texas	0.73%	$155,100	$1,134
Corpus Christi, Texas	0.72%	$153,400	$1,098
El Paso, Texas	0.69%	$131,200	$908
Decatur, Illinois	0.68%	$105,900	$719
Fayetteville, North Carolina	0.65%	$153,000	$988
Mobile, Alabama	0.64%	$143,600	$914
Lubbock, Texas	0.63%	$156,000	$985
Rochester, New York	0.62%	$155,500	$965
Flint, Michigan	0.62%	$133,700	$829

Integrating this information into your investment approach can substantially enhance your conclusions about the areas of focus for your property search and analysis.

Markets with greater rent-to-price ratios usually yield better chances of positive cash flow, so cities like McAllen, Texas or Odessa, Texas are particularly exciting for investors in 2024. By concentrating on properties in these places, investors improve their chances of identifying investments that not only meet the 1% rule, but blow right through them, establishing a sustainable and profitable real estate portfolio.

FAQs

Wrap it up

Wrapping up our guide to real estate cash flow, we’ve only begun to grasp what makes real estate such a bountiful investment. Beyond cash flow, real estate offers wealth-building through appreciation, tax advantages, leverages and diversification. Ready to unlock these bonuses? Read on