Because we focus on buy & hold rental properties, Cash Flow is THE MOST IMPORTANT metric we look at when considering an acquisition.
Caution: This post goes technical real quick and my geeky side does come out 🙂
Most people, even some experienced Realtors, think cash flow is the gross revenue (total rents) generated from a rental property. Unfortunately, that is not true. Cash Flow is similar to Net Operating Income, but also includes some calculations for future expenses. Let me explain…
Cash Flow, as I calculate it because it seems almost everyone has their own way of calculating this, but Cash Flow equals the Monthly Revenue minus TRIMMVC.
Monthly Revenue – TRIMMVC = Cash Flow
What is TRIMMVC? Glad you asked.
Taxes: usually a known quantity by visiting your county’s Property Appraisers site.
Repairs: I typically estimate these between 5-10%. The range is based on the amount of repair work done prior to placing a tenant. The work performed up front, the lower the percentage and vice versa.
Insurance: Insurance carriers always vary, so I encourage you to shop around. While underwriting a potential acquisition I stay conservative an estimate $100-125/unit.
Mortgage: this is an obvious one but unless you’re paying all cash for a property, this should be your largest monthly expense by far.
Management: as in Property Management fees (typically 10% on a SFR long-term rental) and any utilities you’ll include as part of the monthly rent (water/sewer, electricity, gas, snow removal, lawn care, garbage, HOA fees, etc). Also, include utilities and lawn care as little as possible in your leases.
Vacancy: Also estimated between 5-10% based on the property, current tenant situation, and neighborhood.
Capital Expenses: I typically estimate these between 5-10% also. The range is based on the amount of repair work done prior to placing a tenant in the property and covers such things as a new roof, bath room remodel, appliances, etc. And just like Repairs, the more work performed up front, the lower the percentage I use in my underwriting and vice versa.
Here is a real life example of how I evaluated a Pensacola property for acquisition. This property is fairly old and needs some repairs so I’ll be using 10% for Repairs & Maintenance as well as 10% for Capital Expenses. This property should stay rented fairly easy so I’ll use 7% for vacancy. I’ll also be using 10% for Property Management Fees, the tenant is responsible for all utilities and there are no HOA and I’m purchasing this Pensacola property with 20% down on a 30 year mortgage.
Let’s do some math!
Monthly Rent: $1,300
Taxes: $840/yr or $70/month
Repairs: 10% of $1,300 = $130/month
Insurance: $125/month
Mortgage: $500/month (taxes and insurance are not escrowed)
Management: 10% of $1,300 = $130/month (for Property Management, all utilities are paid by the tenant)
Vacancy: 7% of $1,300 = $91/month
Capital: 10% of $1,300 = $130/month
Add up all of our estimated expenses:
$70 (T) + $130 (R) + $125 (I) + $500 (M) + $130 (M) + $91 (V) + $130 (C) = $1,176
Based on these calculations, this meets one of our investing strategy criteria. Now to further evaluate this property with our other criteria before making an offer.
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Good info
Really great info!!!
Thank you!