Rental Property Cash Flow, Worked Through Properly

A listing gives you two numbers, the asking price and the achievable rent, and neither of them tells you whether the property makes money. The answer sits in the six or seven lines underneath that no listing prints: the weeks it stands empty, the boiler, the service charge, the agent's cut.

Cash flow is what is left, not what comes in

Take a $220,000 house letting for $1,850 a month. Put 25% down and the loan is $165,000, which over 30 years at 7% costs about $1,098 a month in principal and interest. Property tax and insurance add roughly $290. Hold back 5% of rent for vacancy and 5% for repairs, which is $185. What is left is $277 a month, or $3,324 a year.

Now compare that against the money you actually put in: $55,000 of deposit plus around $6,000 of closing costs, so $61,000. That is a cash-on-cash return of 5.4%. Respectable, and a very long way from the 10% the rent-to-price ratio suggests at a glance.

The costs people leave out

Four lines get skipped more than any others. Vacancy, because nobody plans for the flat to sit empty for three weeks between tenants. Capital items, because a boiler or a roof does not fail every year but averages out to real money when it does. Management, at 8% to 10% of rent if you are not doing it yourself. And service charge or HOA fees, which are fixed whether or not anyone is living there.

UK landlords have one more. Mortgage interest is no longer deductible from rental profit for individuals; it comes back as a basic rate tax credit instead. For a higher rate taxpayer that materially changes the after-tax result, and it is worth modelling before you buy rather than after.

Gross yield tells you less than you think

Gross yield is annual rent divided by price. A £180,000 flat letting for £1,050 a month produces £12,600 a year, a 7% gross yield, which reads well in a listing.

Now subtract the real costs: £1,400 service charge, £250 ground rent, £600 insurance, £1,000 of maintenance and £1,260 in letting agent fees. Net rent is £8,090. Against the price plus about £6,500 of purchase costs, the net yield is 4.3%. Same flat, same tenant, and the number has almost halved.

Why the 1% rule travels badly

The American shorthand is that monthly rent should be at least 1% of the purchase price. The $220,000 example above rents at 0.84%, which already fails it. A £600,000 house in London letting for £2,400 comes in at 0.4%. The rule was built for one kind of market and does not export well, so use it to shortlist rather than to decide.

Filling in the rental property calculator

The output is only as good as four inputs, and each has a place you can look it up rather than guess.

Rent. Use asking rents for comparable properties currently listed on the same streets, not the selling agent's projection. If three similar flats have sat unlet for a month at £1,100, the market rent is not £1,100.

Taxes and charges. US property tax comes from the county assessor's record for that exact parcel, not the county average. UK service charge and ground rent are stated in the lease, and the managing agent will confirm the current year's figure.

Financing. Enter the actual quoted rate and term. If you want to see how the monthly payment is built, our guide to calculating a mortgage payment breaks the formula apart.

Reserves. Vacancy and maintenance percentages are assumptions, so run the calculator twice, once optimistic and once pessimistic, and see whether the deal survives both. For a wider view of what these tools cover, see our overview of rental calculators.

Common questions

What counts as a good cash-on-cash return? Most investors want the number to beat what they could get with no work at all, so a savings account or a bond fund sets the floor. Anything under that is being paid for in evenings and phone calls.

Should appreciation go in the calculation? Keep it separate. Cash flow is money you can spend this year; appreciation is a guess about a price you have not been offered. Mixing them lets a loss-making property look profitable on paper.

How much should I hold back for repairs? 5% of rent is a common starting point for a newer property, and 10% is more honest for anything with an old roof, old wiring or a boiler past ten years old.

Does my own labour count as a cost? If you would otherwise pay an agent 10%, then managing it yourself is not free profit, it is a job you have given yourself. Put the fee in, see whether the deal still works, then decide.