Cash flow is an all-important business concept that is just as relevant when it comes to property management as it is with any other business venture. Cash flow is simply the rental income that is left in your account after all expenses have been duly paid for.

While explaining cash flow as simply retained income less expenses is easy to grasp, this explanation falls short if you adopt the same approach for calculating rental cash flow. For some, cash flow is what is left after monthly expenses deductions from money received as rent. However, this approach does not include most of the unexpected expenses you make that you did not envisage at the start of the month or period.

These expenses may include replacing certain items due to the sudden breakdown of household equipment like air conditioners or fittings like roofs and the like. These are some expenses you simply cannot plan for but have to cover when they arise. So calculating cash flow on the basis of expenses alone is not a feasible formula for long-term success.

What is the most effective way to estimate rental cash flow?

If you want to calculate cash flow effectively, one thing you must do is to determine your cash flow on a yearly or monthly basis. This way, you can easily set apart a certain amount as expense reserve when evaluating your cash flow. For most property owners, they calculate cash flow strictly as net cash flow, which is the amount left after rent has been paid.

If you review cash flow on a monthly basis, you will be in a better position to spot and evaluate the changes as they arise. You will also be able to review these changes over a longer period of time too. Calculating your cash flow effectively will allow you to know how much comes in as net cash flow as well as your return on investment. The information you have will then aid you in making informed investment decisions for the future.

How to calculate Real Estate cash flow?

Before you can calculate cash flow for your real estate business properly, you need to grasp the basic arithmetic concept. Understanding how your real estate business makes money is the first thing you need to understand. If you have a sound arithmetic foundation, you will be in the best possible position to calculate your cash flow correctly.

The next concept you need to understand is cash flow as a concept. Like we stated at the start of the article, cash flow is what is left of your income after accumulated bills have been paid off. These bills range from

• Capital expenditure
• Repairs
• Rental vacancies
• Utilities
• Miscellaneous expenses

The mathematical formula for calculating cash flow is as follows.

Total Income – Total expenses = Cash Flow

As you can see, the above equation is easy to understand; however, many property investors still get the practice of computing their cash flow wrong. But why?

Why Cash Flow computation is a challenge for many

Cash flow is a challenge for many because the items that make up expenses are too numerous and are not time-based since they can come up at any time. Total rent does not always equate to income because of these expenses. Also, certain fees may require payment regardless of whether the house is occupied or rent has been paid. Also, in most cases, these expenses have to be settled long before new rent is paid. This is what makes the implementation of the above formula much more complex than it should be.

So what is the best way to calculate Cash flow?

The best way to do it is to make a list of potential income long before the rent is paid. Generating a conservative amount is much better than a much higher amount that you may not earn. After drafting your potential rental income, the next step will be to calculate your operating income. Your net operating income is simply the total amount of money your asset can generate for the period.

The next step will be to compile all your potential expenses. Make a list of all potential expenses, including the ones that you consider less likely. Just add them all to the list and attach a cost to each of them. Add the costs together to come up with a total expenses amount.

What is a good cash flow?

This question attracts different answers depending on who you ask. However, many will agree that a good cash flow is any amount that earns you more than $100 per unit on your asset. By this definition, any unit that attracts more than $100 per unit after deductible expenses is a good cash flow. For instance, if your property is a duplex, you should aim for a cash flow of $200. For a Fourplex, a good cash flow is $400 as the barest minimum.

Now, do note that evaluating cash flow based on positive and negative flows is not cast in stone. Your evaluation should depend on your preferences and the value of the asset. The more valuable the asset, the higher your cash flow should be because expensive assets attract more expenses. But as a general rule, cash flow based on a per door ratio is a smart way to calculate it. Besides the flow per door metric, there is another model called the cash on cash metric.

Cash on Cash Return

A cash on cash metric is the percentage of your investment earned back after a period. To put things into proper perspective, if you spend $10,000 on an asset and earn $1000 for the period, your return is 10%. Cash on cash returns is the total income divided by the invested capital.

Understanding your purpose

Suppose you want to be a successful real estate investor; you need to understand your purpose before beginning. Why are you investing in rental properties?

• Do you want to retire on your rental assets in the future?
• Do you want a higher ROI from your savings?
• Do you want to utilize the assets as a tax shelter to reduce your tax liabilities?
• Are you gunning for long-term capital gains?

People invest in real estate assets for different reasons, and these reasons influence their investment decision. It would help if you did likewise. Let your purpose guide you in choosing the type of properties to buy and how much you spend acquiring them.

Let us now conclude this article with items that kill and boost cash flows

Real Estate cash flow killers

Certain items can drag down your cash flow or even turn it red if you are not careful. Here is one cost to be mindful of.

Repairs and Maintenance

Fixing structural defects or damages are capital intensive and will consume a significant volume of your cash flow. The longer a defect or damage lasts, the more expensive it will be to fix it. This is why investors are advised to fix problems as soon as they come up.

Regardless of how long the tenants will stay, problems have to be fixed. If your property remains unoccupied for the period, no income will come in, but the repair expenses will still have to be paid.

Broken down equipment

If equipment like the HVAC system is bad and can no longer be replaced, you will have to install a new one which will cost money. A house with broken-down equipment will not attract the tenants you need.

Real Estate Cash Boosters

There are also cash boosters that can raise your cash flow. These boosters raise your cash flow much higher than planned and can help you bring in more money than you spend. Here are some cash flow boosting steps to take.

Increase the rent

One of the tested and trusted ways to boost cash flow is to increase the rent you charge tenants for occupying your property. This approach is quite tricky and should only be adopted if the value of the property increases. You also want to make sure that the rent is something your tenants can afford because if it becomes unaffordable, they will vacate the property, and you will have a hard time finding new tenants.

One way to improve the value of your asset is by remodeling it with new equipment, new paint, and general aesthetic upgrades.

Source for long term tenants

Another way to boost your cash flow is to source long-term tenants who will occupy the property for a few years or more. Remember that there are certain bills you pay for regardless of whether the property is occupied or not. If you don’t want to keep paying utilities for an empty house, consider tenants who will use the property for a long time.

Buy quality items

Ensure that every item used in the house is of good quality, from the roofing to the flooring to the equipment. Quality items may cost you more, but in the long run, they will last longer, and you will not need to replace them anytime soon.