How to analyze a rental property
A rental property earns money in two ways: the rent left over after the mortgage and operating expenses, and the gain in value when you sell. This rental property calculator projects both, year by year, for as long as you plan to hold the property. It shows the monthly cash flow in the first year, the cap rate, the cash-on-cash return, the total profit and the internal rate of return (IRR) if you sold at the end of any year.
Enter the purchase price and loan, the rent and other income, the yearly operating costs and how fast each one grows, then choose how the sale price is estimated: from a yearly appreciation rate or from a price you already expect. To see the mortgage payment on its own, use the mortgage calculator.
Rental property formulas
| Measure | Formula |
|---|---|
| Effective income | rent × (1 − vacancy) × (1 − management fee) |
| Net operating income (NOI) | effective income − operating expenses |
| Cash flow | NOI − mortgage payments |
| Cap rate | NOI / purchase price |
| Cash-on-cash return | yearly cash flow / cash invested |
- NOI does not include the mortgage, so it describes the property itself.
- Cash flow is the money that actually reaches you after the mortgage.
- Cap rate compares properties without looking at how they are financed.
- Cash invested is the down payment, closing costs and repairs.
- IRR is the yearly return that accounts for when each dollar is paid or received, including the money from the sale after selling costs and the loan payoff. The IRR calculator explains it in detail.
Example
You buy a $200,000 property with 20% down and a 30-year loan at 6%, paying $6,000 in closing costs. Rent is $2,000 a month with 5% vacancy, and yearly costs are $6,700 (property tax, insurance, maintenance and other costs). In the first year:
- Effective income = $24,000 × 0.95 = $22,800
- NOI = $22,800 − $6,700 = $16,100
- Cap rate = $16,100 / $200,000 = 8.05%
- Cash flow = $16,100 − $11,511 of mortgage = $4,589, or $382.39 a month
- Cash-on-cash return = $4,589 / $46,000 = 9.98%
If rents, costs and the value all rise 3% a year and you sell after 20 years with an 8% cost to sell, the total profit is about $402,304 on the $46,000 investment — an IRR of 18.42% a year.
Rules of thumb for screening rentals
- 1% rule: the monthly rent should be at least 1% of the purchase price — $2,000 a month for a $200,000 home. It is a quick filter, not a full analysis.
- 50% rule: operating expenses, not counting the mortgage, often take about half of the rent over time. If the other half does not cover the mortgage, the cash flow will likely be negative.
- Cap rate: many investors look for about 5% to 10%, depending on the area and the risk.
Rules of thumb only sort out properties worth a closer look; run the full numbers in the calculator before you buy.
Tips for realistic numbers
- use rents of similar properties nearby, not the asking rent you hope to get;
- budget for vacancy even in a strong market — 5% to 10% is common;
- plan maintenance at about 1% of the property value a year, more for older buildings;
- include a property manager's fee — often 8% to 12% of the rent — if you will not manage the property yourself;
- investment property loans usually need a larger down payment than a home you live in — often 15% to 25%. The down payment calculator shows the cash you need.
Financing and comparing returns
A higher mortgage rate cuts the cash flow directly, so check the payment at different rates before you commit. Some investors fund a down payment with a HELOC on their own home, or later lower the payment with the refinance calculator. To compare the rental with other investments, the ROI calculator gives the simple and annualized return, and the real estate calculators page lists every tool for buying and owning property.