One concept that is absolutely essential for any aspiring landlords and real estate investors to grasp before they make their step into rental properties, is that they need to know what rental property cash flow is and how they calculate it. After all, cash flow is quite literally the lifeline of a rental real estate investment.
Luckily, while the phrase may seem daunting, it is easier to calculate the average cash flow on a rental property than you might think. In fact, for many investors, you are destined to either invest in real estate solely for the cash flow, or not invest at all. You may think that this statement is a little strong.
Though, while strong, it is not untrue. Cash flow is a very strong force when it comes to rental properties. So strong, in fact, that it is essentially the main form of profit made from rental income.
What Is Cash Flow?
Put simply, real estate cash flow is the difference between the rental expenses and rental income of an investment property. Now that you have the definition, calculating cash flow is actually extremely straightforward. The formula is:
Cash Flow = Total Rental Income – Total Rental Property Expenses
Essentially, cash flow will be the direct tell for a real estate investor as to if his/her rental property is profitable and just how much money is being made. A positive cash flow property is one that is able to generate more income than it does expenses. Negative cash flow, on the other hand, has far higher expenses than it does income.
This serves as a loss for real estate investors. When discussing what good cash flow is, this will depend on both the investment and the investor. Continue reading to find out about what the average cash flow is on a rental property.
Donald Shurts, a Keller Williams Advisors Realtor explains "The amount that an owner of a rental property enjoys as profit is generally known as cash flow. There are mainly two types of cash flow: gross cash flow and net cash flow. The gross cash flow indicates all the direct income from the rental properties like late fees, application fees, rent from the tenant, etc. Another type of cash flow is net cash flow. After deducting all the important bills like electricity bills, tax, and servicing, the rest amount is known as net cash."
What Is a Good Cash Flow on a Rental Property?
Knowing how to calculate cash flow, it is clear that positive cash flow is considered good cash flow. The higher the rental property cash flow is, the more profitable it is for the landlord or investor. However, the reality of cash flow is all about a variety of different factors in real estate.
To effectively know what it is, you must consider the following variables.
You have likely heard it many times, but location is the most important thing in real estate. This becomes even more true when you’re tiring to find the highest possible cash flow for rental properties. The same can be said when it comes to rental property expenses such as association fees, property taxes, and interest rates.
In addition to this, there are many other factors when it comes to the exact location. As an example, the short-term rental legislation of an area can restrict Airbnb cash flow for many reasons. On top of this, if the area has rent control laws, the potential for rental income can be limited.
All of this combined will affect cash flow. Theresa Raymond, a real estate professional and broker, explains "An idea of the average cash flow can be extracted by seeing the rental tab of different neighborhoods or regions. For example, in Mesa, Arizona, the annual cash flow for rental owners stands up at about $2,880 and while Detroit in Michigan produces about $5,616. After this, the modification of the house and facilities compared to other houses add up to the cash flow. But a good cash flow is when the return on cash is at least 10% and more".
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2. Property Type and Price
Another thing to take into consideration is the property type and price. Different property types can have a far different potential for earning rental income based on how many units can operate at one sole time. Many multi-family rental properties, for example, have more rental units than a single-family property has.
As a result of this, properties that can accommodate bigger families will have a higher potential for cash flow than single-family properties. The price of the property will also play a big role here. More expensive properties will obviously fetch a higher cash flow most of the time.
On the other hand, cheaper properties will fetch a lower cash flow. Dustin Fox, Owner / Realtor of Fox Teams explains "Depending on the housing situation, area, and economic stability the average cash flow will differ in amount. A house built and rented for families to live in a suburban area will have lower average cash flow than a house rented in the city. In addition, renovation, vacancy, and other things can affect the average cash flow.
If a unit provides 100$-200$ monthly as a profit, that is considered good cash flow. However, the rate will increase with the type of housing.. If the house is a duplex or triplex, it is better to consider 400$ as the minimum cash flow.
The total invested amount is an essential aspect for consideration. For example, if someone invests 1M$ in property and generates 500$ monthly, undoubtedly it is not a good investment. On the other hand, if you have invested 10,000$ in a property and the monthly rent is 500$, this is a very good rent. As a result, the average cash flow will observe positive growth.
Following the 10% rule is another way to calculate the rate of average cash flow. Divide the yearly net cash flow by the amount of money that was invested in the property. If the result is over 10%. Then this is a sign of positive and a good amount of average cash flow".
3. Rental Strategy
Much like the type of property, the type of rental investment strategy you adhere to will influence what good cash flow on a rental property is. For example, an Airbnb rental strategy will usually yield far more cash flow than traditional rentals will.
What is the Average Cash Flow on a Rental Property
To truly answer this question, you would have to consider your location, strategy, property type, price, and so much more. For example, what amenities does your rental property have? How many bathrooms are there?
As you can see, there are many variables. On top of this, what one investor may see as good cash flow, another may be entirely unhappy with. One thing is for sure though, all investors will be aiming for a positive cash flow at all times.
While we cannot give you a definitive answer because every investor will have different financial goals. We can give you a rough answer. The average cash flow on a rental property for most investors is an 8% return on investment, or ROI.
Others will strive for an ROI of 15%. There really is no magic number or right amount to ear.
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The Bottom Line
Generating income from the cash flow on your rental properties can be an excellent investment. In addition to this, you may be able to use the cash flow to pay down any mortgages while also generating equity. Keep in mind, when it comes to real estate cash flow, calculating your expenses and rental property income will be your number one key to success.
Anything around 7% or 8% is the average ROI. However, if you’d really like to succeed, you should always aim higher at around 15%. Anything between these percentages will be seen as favorable cash flow properties as long as you have a current tenant and are receiving the expected rental income without having to outlay massive fees and expenses.
Overall, it is important to always be aware of what your income and expenses are going to be as what you see here is only a rough guide to the average cash flow on a rental property. You can also use a free gross rental yield calculator by simply searching that term on google.
This way, you will easily be able to find out what the rental yield is.