The single most important purpose of real estate investments is to make money. In other words, the primary purpose of a property is to have positive cash flow. But what is cash flow, and how can it be calculated? That’s what the topic of this blog, real estate cash flow analysis, is all about.
Cash Flow – What It Is
First things first, what is cash flow? At its core, cash flow is the income generated by a property deducted by its expenses. If more money is being used on a property compared to the money it generates, a real estate investor has a negative cash flow property. If the generated income and recurring expenses cancel out, a property has zero cash flow, or breaks even. A property with rental income higher than its expenses has positive cash flow.
The obvious goal of all real estate investments is to be positive cash flow investment properties. Positive cash flow is by far the most lucrative gain of real estate investing. What makes it superior to a profit such as appreciation is that it is timeless. Every real estate investor who invests in cash flow investment properties will earn profit in both the short term and the long term. Investing in real estate for cash flow does not exclude appreciation, but the reverse can be true. Investing with the buy-and-hold method, the most common investment strategy, ensures both cash flow and appreciation profits.
Related: When Is Buy and Hold Real Estate the Best Investment Strategy?
How to Calculate Cash Flow
Real estate cash flow analysis begins with calculating cash flow. Here are the most common ways to do so.
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Standard Method
The simplest way to calculate cash flow for rental properties is to take the difference between the total income and the total expenses of the property.
Cash Flow = Total Income – Total Expenses
This calculation may be simple, but the information provided by it can be very helpful. The calculation tells you the cash flow of the property at any point in time, which all depends on the values of the two variables inserted. Since the variables depend on time, the total income simply be the income of the property during the time period. The same goes for total expenses. There are many expenses to account for in cash flow real estate properties. Everything from mortgage payments and vacancies to utility bills and maintenance is considered expenses.
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Annual Cash Flow of Investment Properties
Although the standard method can be useful in figuring out the cash flow of a property during a short time period, like a week, it is not very practical when considering longer timespans. The standard method also neglects the rate of return considering the total investment. This next, and more common, method of computing cash flow solves these problems.
Cash Flow of Investment Properties = (Annual Cash Flow/Total Cash Invested) × 100%
This is the more common method, known as cash on cash return, to calculate cash flow for real estate investments. Typically, a cash on cash return of 8 percent or higher is considered good for cash flow real estate properties.
Related: Real Estate Investing 101: How to Calculate Cash on Cash Return
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The 50% Rule
The 50% Rule does not have much use in a typical real estate market analysis. What it is useful for, however, is to compare multiple rental properties quickly for a manual real estate market analysis. Aside from a fast, general comparison between properties, the 50% Rule is limited in its application. Use the previous two methods when wanting to actually compute the cash flow of a property.
Cash Flow (50% Rule) = (Total Income × 50%) – Mortgage Principal and Interest
Methods of Real Estate Cash Flow Analysis
A real estate cash flow analysis depends on the previously mentioned calculations of cash flow. The analysis can be used as property comparison and cash flow forecast. The methods may differ, but they all serve the same purpose.
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Models, Charts, and Projections
A cash flow forecast can come in many forms, but the three most common ones are models, charts, and projections. These terms are essentially the same thing with only slight differences in conveying information. Overall, a real estate cash flow model, a cash flow chart, and a cash flow projection all act as part of a real estate cash flow analysis by estimating future cash flow. While a cash flow chart tends to visualize the information, a real estate cash flow model and a cash flow projection tend to come in a spreadsheet form.
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Investment Property Calculator
When it comes to a real estate cash flow analysis, an investment property calculator works as an interactive and more efficient cash flow forecast tool. The three aforementioned cash flow forecast tools, the cash flow chart, cash flow model, and cash flow projection, tend to be used manually, which can take up a lot of time. The investment property calculator eliminates this problem. All the real estate investor has to do with an investment property calculator is insert some variables and the calculator will present the forecast in little time.
Why Real Estate Cash Flow Analysis Is Important
A real estate cash flow analysis is vital, here’s why.
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Tells You if You’re Making Money
The most important feature of a cash flow analysis is that it tells a real estate investor if he/she is making money, both in the present and the expected future. As mentioned earlier, positive cash flow investment properties are what to aim for. For this reason, cash flow acts as a powerful metric of return on investment (ROI).
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Pinpoints Potential Flaws in the Investment
If a property’s cash flow is not performing up to par, a cash flow analysis can reveal the cause. It may be that the expenses are too costly. The exact expense can be narrowed down and dealt with accordingly. The issue may be that the rental income just isn’t enough. The real estate investor would then find ways to increase rent, like through renovations.
Related: 5 Creative Ways to Increase Rental Income
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Compares Between Potential Properties
A real estate cash flow analysis can also be used to compare rental properties for purchase. The better the cash flow of an investment property, the more likely it will become a good real estate investment.
Why Mashvisor Is Your Best Tool for Real Estate Cash Flow Analysis
Mashvisor is the ultimate tool for real estate investing. Not only does its property search engine help investors find properties all over the country in no time, but its investment property calculator is a powerful tool of real estate cash flow analysis. All the investment property calculator requires from the real estate investor are a few variables, the calculator will do the rest of the work. Start your trial with Mashvisor today for an excellent and quick real estate cash flow analysis!