Gold cash

Cash flow is probably the most coveted return from any investment. It seems prudent for those involved in real estate investing therefore to understand what it means and how to calculate it.

What It Means

Cash flow is all of a rental property’s cash inflows less all of its cash outflows. Think of it as all the money flowing in such as rent, loan proceeds, and interest on bank accounts less all the money flowing out like operating expenses, debt payment, and capital additions and you’ll get the idea.

When one speaks about cash flow, it’s generally referring to cash flow before taxes (CFBT) which doesn’t take into consideration the owner’s tax liability. There is another instance, however, known as cash flow after taxes (CFAT). This does account for tax liability and is essentially CFBT less tax liability. Both cash flows are important to rental property analysis and should be understood by real estate investors.

How to Calculate

Net Operating Income

less Debt Service

less Capital Additions

plus Loan Proceeds

plus Interest Earned

= Cash Flow Before Taxes (CFBT)

Cash Flow Before Taxes (CFBT)

less Income Tax Liability

= Cash Flow After Taxes (CFAT)

Let’s take a closer look at the calculation.

Net operating income (NOI) is gross scheduled income less vacancy allowance less operating expenses. Debt service is the total loan payment (first, second, third loans) including principal and interest. Capital additions (different from maintenance and repairs) are improvements to the property having a useful life of more than one year and likely to increase (not merely maintain) the life of the property. Loan proceeds refer to the proceeds obtained from subsequent financing not to the original mortgage, where you might obtain a $40,000 second mortgage to cover the cost of constructing a $40,000 garage for instance.

Let’s look at an example.

You have a property with ten tenants each paying $1,000 per month rent totaling $120,000 per year. You estimate a vacancy and credit loss of 5%. The property has operating expenses of $45,600 per year, and a first mortgage payment of $36,326 per year. In month six, you add a new roof at the cost of $20,000 and take out a $20,000 second mortgage to cover the cost of that construction. Your payment on this loan totals $881 for the remaining six months. What is your property’s CFBT?

Gross Scheduled Income 120,000

less Vacancy 6,000

= Gross Operating Income 114,000

less Operating Expenses 45,600

= Net Operating Income 68,400

less Debt Service 37,206

less Capital Additions 20,000

plus Loan Proceeds 20,000

CFBT = 31,194

If your tax liability in year one is $7,000, than what is your property’s CFAT?

CFBT 31,194

less Taxes Due 7,000

CFAT = 24,194

One final thought. The key to forecasting cash flows from a rental property you’re planning to purchase is to be realistic during your evaluation. It’s better to anticipate small or negative cash flows you plan to handle with personal funds than to encounter a surprise after you purchase the property. Try to avoid pie-in-the-sky rents and always include all expenses. Remember, you’ll be paying for the cash flow a property generates, so be sure you know what it’s most likely to be.

About the Author

James R Kobzeff is the developer of ProAPOD Real Estate Investment Software – Want to learn more about how you can create rental property analysis presentations in minutes?

See our solutions, sample reports, screen shots, and more at => http://www.proapod.com

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Have you noticed that your PC games crash too often? What could be the reason behind this. Sometimes you are playing the game normally when suddenly the game shuts down itself. These problems and some others similar to these have been linked to the important settings in your Window. If due to some reason you could not take care of your operating system and have tried to preserve the important setting in it then such errors are bound to appear. However, it is not too late. You can still take some preventive measures.

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