How to Calculate Rental Property ROI, Cap Rate & Cash Flow
Before buying an investment property, you need to understand three key numbers: cap rate, cash-on-cash return, and monthly cash flow. Here's how to calculate all three.
Cap Rate = Net Operating Income ÷ Property Price. Cash-on-Cash Return = Annual Cash Flow ÷ Cash Invested. A good residential cap rate is 5-8%. The 1% rule (monthly rent ≥ 1% of purchase price) is a quick filter for cash flow potential before deeper analysis.
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The Three Essential Rental Property Metrics
1. Cap Rate (Capitalization Rate)
Cap Rate = Net Operating Income ÷ Property Price
Net Operating Income (NOI) = Annual Rent − Vacancy − Operating Expenses (excluding mortgage). A 6% cap rate on a $250,000 property means $15,000 in annual NOI before debt service.
2. Cash-on-Cash Return
CoC = Annual Cash Flow (after mortgage) ÷ Total Cash Invested
This measures the return on your actual cash down payment. A 8-10% CoC is generally considered strong for residential rentals.
3. Monthly Cash Flow
Cash Flow = Monthly Rent − Vacancy − Expenses − Mortgage
The 50% Rule: Roughly half of gross rent goes to operating expenses (taxes, insurance, maintenance, management, vacancy). This is a rough estimate — actual expenses vary by property age and location.
The 1% Rule
A quick filter: monthly rent should be at least 1% of purchase price ($2,500/month for a $250,000 property). Properties below this threshold often struggle to cash flow positively. In expensive markets, 0.7-0.8% may still work with strong appreciation expectations.
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