What you need before the math means anything
Analyzing a rental property is arithmetic on five inputs. The formulas are simple; the inputs are where deals are won and lost. Gather these from sources you can defend and the six steps take minutes.
| input | where it comes from | what usually goes wrong |
|---|---|---|
| market rent | signed leases within half a mile, same bed and bath count; HUD fair market rent for vouchers | the seller pro forma instead of today's rent |
| property taxes | the county assessor record, plus that state's reassessment rules | the current owner bill, which can jump once the sale records |
| insurance | a written quote for that exact address | a statewide average that misses wind, flood, or roof-age loading |
| repairs and turn cost | an itemized walkthrough or a contractor bid | one round number with no line items behind it |
| financing terms | a rate quote for an investment property | the owner-occupied headline rate, which sits below investor pricing |
1. Establish gross rental income
Start with market rent, then subtract the rent you will not collect. Vacancy is not optional — even a three-year tenant leaves a turn month behind. Budget 5–8% in stable markets, 10% or more in transitional ones, and higher on a unit with no leasing history.
EGI = gross rent × (1 − vacancy)
Example: $1,450/mo × (1 − 0.08) = $1,334 EGI
2. Calculate net operating income (NOI)
NOI is income after operating expenses and before debt service: taxes, insurance, management, maintenance, a capital reserve, and the vacancy you already took out. It never includes the mortgage — that is what makes NOI a property number rather than a you number.
NOI = EGI − operating expenses
Example: $1,334 − $583 = $751 NOI/mo ($9,012/yr)
3. Calculate cap rate
Cap rate is the unleveraged return on the asset, and it is how brokers and appraisers price income property. It only means something against a local baseline: an 8% cap is ordinary in a Midwest cash-flow market and extraordinary in a coastal one.
cap rate = (NOI × 12) / purchase price
Example: $9,012 / $110,000 = 8.2% cap
4. Calculate DSCR
DSCR is the ratio lenders underwrite: rent divided by the full housing payment, including taxes, insurance, and association dues. Above 1.25 the property covers its debt with room to spare; below 1.00 it does not. DSCR uses gross rent, so it always looks healthier than actual cash flow — a loan test, not a forecast.
DSCR = monthly rent / (P&I + tax + insurance + HOA)
Example: $1,450 / ($549 + $150 + $85) = 1.85 DSCR
5. Calculate cash-on-cash return
Cash-on-cash measures annual cash flow against the money you actually put in: down payment, closing costs, and rehab. It answers whether this deal beat leaving the cash somewhere else. A BRRRR that returns most of your capital at refinance pushes the ratio high, because the denominator shrinks.
CoC = annual cash flow / total cash invested
Example: $2,424 / $36,000 = 6.7% CoC
6. Quick screen with the 1% and 50% rules
Both rules exist to reject losers in seconds, not to justify an offer. The 1% rule asks whether monthly rent reaches 1% of the all-in cost. The 50% rule assumes expenses eat half of gross rent, then subtracts the loan payment. Use them on fifty listings; use steps 1–5 on the three that survive.
quick cash flow ≈ (gross rent × 0.50) − P&I
Example: ($1,450 × 0.50) − $549 = $176/mo, and $1,450 / $115,000 all-in = 1.26%
Benchmarks: what the numbers usually look like
These are starting points, not underwriting standards. Every one moves with the market, the property age, and the lender.
| line item | common range | notes |
|---|---|---|
| vacancy allowance | 5–8% | 10%+ in transitional submarkets or unproven units |
| property management | 8–10% of collected rent | plus a leasing fee, often half a month or more |
| maintenance | 5–10% of gross rent | toward the top for pre-1980 construction |
| capital reserve | 5–10% of gross rent | roof, HVAC, and systems replacement, not repairs |
| cap rate | 6–8%+ in cash-flow markets | lower where appreciation carries the return |
| DSCR | 1.20–1.25 lender minimum | some programs go lower at a rate premium |
| cash-on-cash | 8–10% is a common target | compare against your alternatives |
| mortgage rate | around 7% on investment property | varies by lender, credit, LTV, and program |
A worked example, start to finish
One illustrative single-family rental, carried through all six steps. The numbers are rounded and hypothetical — the point is the shape of the calculation.
| line | amount | how it was derived |
|---|---|---|
| purchase price | $110,000 | contract price |
| repairs + closing | $8,500 | $5,000 turn, $3,500 closing |
| market rent | $1,450/mo | three signed leases nearby |
| vacancy (8%) | −$116/mo | stable submarket, proven unit |
| effective gross income | $1,334/mo | rent less vacancy |
| taxes + insurance | −$235/mo | $150 assessor, $85 quoted |
| management (8%) | −$116/mo | third-party manager |
| maintenance + reserve | −$232/mo | 8% each of gross rent |
| NOI | $751/mo | $9,012 per year |
| cap rate | 8.2% | NOI / price |
| loan | $82,500 | 25% down, around 7%, 30 years |
| P&I | −$549/mo | principal and interest |
| DSCR | 1.85 | rent / (P&I + tax + insurance) |
| monthly cash flow | $202/mo | NOI less P&I |
| cash invested | $36,000 | $27,500 down + $8,500 |
| cash-on-cash | 6.7% | $2,424 / $36,000 |
Read the last three rows together. The deal clears every lender test, yet the return on your capital is moderate. That gap between DSCR and cash-on-cash is the most common reason a "financeable" property disappoints its buyer.
Mistakes that break the analysis
- Seller pro forma with 0% vacancy and no capital reserve.
- Rents above neighborhood comps with no explanation for the premium.
- Taxes carried from the previous owner assessment, ignoring reassessment risk.
- Deferred maintenance visible in photos but absent from the repair estimate.
- Cap rate calculated on asking price rather than on what you would pay.
- Cash flow counted before management, assuming you self-manage forever.
Signals worth a full underwrite
- DSCR of 1.25 or better at 75% LTV on current rent, not projected rent.
- Cap rate a point or two above the local average for the same class.
- Rent-to-price ratio above 1% on the all-in number, including repairs.
- An existing tenant already paying market rent on a documented lease.
When this analysis does not work
The six steps assume a stabilized long-term rental, and they break down in three cases. A heavy value-add property has no meaningful cap rate at purchase, because current income reflects the broken version of the building — underwrite it on after-repair value and stabilized rent. A short-term rental swings by season with expenses two or three times higher, so annual revenue and a cleaning-and-platform line replace the simple rent figure.
And an appreciation-first market can run negative cash flow on paper while still building wealth through paydown and price growth. That is a different bet, made deliberately rather than by talking past a bad cash-on-cash number. Tax treatment varies by state — consult a CPA.
Go deeper
- Rental property analyzer — run all six steps on one address instead of a spreadsheet.
- Cash-on-cash calculator — test how down payment and rate changes move step 5.
- 1% rule calculator — the two-second screen from step 6.
- Rental operating expenses: what the 50% rule gets right — the narrative companion to this page, on why expense assumptions sink more deals than price.
- Property taxes: the line item that kills cheap-market deals — how reassessment rewrites the largest fixed line in your NOI.
- Landlord insurance: what actually drives the premium — why a statewide average is the wrong number.
- Vacancy: the invisible expense that eats your year — the case for the allowance you subtracted in step 1.
FAQ
What is a good cash-on-cash return on a rental property?
Many buy-and-hold investors look for 8-10% or better, but it depends on your cost of capital and what else the money could do. A 6% return on a stabilized property in a strong rental market can beat 12% on a management-heavy building. Compare the return to your alternatives, not to a rule.
How much should I budget for expenses on a rental property?
Outside of the mortgage, a common working range is 35-50% of gross rent once you include taxes, insurance, management, maintenance, capital reserves, and vacancy. Older homes, high-tax counties, and coastal insurance markets sit at the top of that range. Use real quotes and the county tax record before trusting any percentage.
Is cap rate or cash-on-cash return more important?
They answer different questions. Cap rate measures the property with no loan attached, which is how you compare one deal to another and to the local market. Cash-on-cash measures what your invested dollars earn after financing. Use cap rate to price the asset, cash-on-cash to decide whether to write the check.
How do I analyze a rental property that has never been rented?
Build the rent from comparable leases, not from the listing. Pull recently signed rentals within half a mile with the same bedroom and bathroom count, adjust for condition and parking, and check HUD fair market rent if you plan to accept vouchers. Hold vacancy higher for the first year.
How long should analyzing a rental property take?
A first-pass screen should take under two minutes: rent-to-price ratio, a 50% rule cash-flow estimate, and a look at the tax record. Full underwriting on a property that survives usually takes 30-60 minutes, because it needs real insurance quotes, rent comps, and a repair estimate.