Analyzing Investment Properties

Running the Numbers That Matter

Real estate investing is a numbers game. Learn to analyze deals quickly and accurately.

Key Metrics

Cash Flow

Monthly Cash Flow = Rental Income - All Monthly Expenses

Expenses include:

  • Mortgage payment (principal + interest)
  • Property taxes
  • Insurance
  • Property management (typically 8-10%)
  • Maintenance (budget 5-10% of rent)
  • Vacancy allowance (typically 5-10%)
  • Utilities (if paid by landlord)
  • HOA fees
  • Reserves for capital expenditures

Positive cash flow = property pays you Negative cash flow = you pay the property

Cap Rate (Capitalization Rate)

Cap Rate = Net Operating Income / Purchase Price × 100

NOI = Annual Rental Income - Annual Operating Expenses (excluding mortgage)

Cap rate shows return if you paid all cash. Useful for comparing properties.

  • Higher cap rate = higher return (potentially higher risk)
  • Lower cap rate = lower return (potentially lower risk)

Typical ranges vary by market: 4-6% in expensive markets, 8-12% in cheaper markets.

Cash-on-Cash Return

Cash-on-Cash = Annual Cash Flow / Total Cash Invested × 100

Total cash invested includes:

  • Down payment
  • Closing costs
  • Repairs/improvements before renting

This is YOUR actual return on the money YOU put in.

Target: Many investors want 8-12%+ cash-on-cash.

The 1% Rule (Quick Filter)

Monthly rent should be ~1% of purchase price.

$200,000 property → ~$2,000/month rent

Properties meeting this rule are worth analyzing further. It's a rough filter, not a decision rule.

Gross Rent Multiplier (GRM)

GRM = Purchase Price / Annual Gross Rent

Quick comparison metric. Lower GRM = potentially better deal.

Debt Service Coverage Ratio (DSCR)

DSCR = NOI / Annual Debt Service

DSCR > 1.0 means property income covers debt payments.

Lenders often require DSCR of 1.2 or higher.

Running the Numbers

Step-by-Step Analysis

1. Estimate rental income: Research comparable rents in the area. Be conservative.

2. Calculate gross operating income: Annual rent × (1 - vacancy rate)

3. Subtract operating expenses: Taxes, insurance, management, maintenance, reserves, utilities

4. Calculate NOI

5. Subtract mortgage payment for cash flow

6. Calculate returns:

  • Cap rate (NOI / price)
  • Cash-on-cash (cash flow / cash invested)

AI Prompt: Full Deal Analysis

Run a complete investment analysis on this property.

Property:
- Purchase price: [Amount]
- Expected monthly rent: [Amount]
- Annual property taxes: [Amount]
- Annual insurance: [Amount]

Assumptions:
- Vacancy rate: [8%]
- Property management: [10% of rent]
- Maintenance: [10% of rent]
- Capital expenditure reserve: [5% of rent]

Financing:
- Down payment: [Amount or percentage]
- Interest rate: [Rate]
- Loan term: [Years]
- Closing costs: [Estimate]

Calculate:
1. Monthly and annual cash flow
2. Cap rate
3. Cash-on-cash return
4. DSCR
5. 5-year projected returns including appreciation
6. Assessment: Is this a good deal?

Due Diligence for Investors

Financial Verification

If buying with existing tenants:

  • Review actual rent rolls
  • Verify income against bank deposits
  • Review historical vacancy
  • Examine expense history

Physical Inspection

Same as any purchase, but focus on:

  • Capital expenditure needs (roof, HVAC, etc.)
  • Deferred maintenance
  • Unit-by-unit condition

Legal Review

  • Lease terms and expirations
  • Tenant rights in your jurisdiction
  • Zoning compliance
  • Rental license requirements

Market Analysis

  • Current comparable rents
  • Rent trends
  • Vacancy rates in area
  • Future development affecting demand

Red Flags

Numbers Don't Work

If you can't make it cash flow with conservative assumptions, pass.

Deferred Maintenance

Big repairs coming soon eat into returns.

Problem Tenants

Inherited tenants with issues can be costly to resolve.

Declining Area

Good price might reflect market reality, not opportunity.

Seller Won't Provide Financials

What are they hiding?

Too Good to Be True

Why hasn't someone else bought this?

Building a Portfolio

Start with One

Learn on your first property before expanding.

Systems Before Scale

Document your processes. You'll need them as you grow.

Diversify Over Time

Different property types, different neighborhoods, different tenant bases.

Know When to Sell

Sometimes selling and redeploying capital beats holding.

What's Next

Making it all possible with financing.

Next chapter: Financing and mortgages.

Real Estate Investing BasicsFinancing and Mortgages