Real Estate · 7 min read · 2026-03-30
The 9-variable rental cash flow analysis.
Rental property pro formas often look profitable on paper. The reality, two years later, is meaningfully different.
The pro forma always looks better than the reality.
Most retail rental property analyses count rent and mortgage and call it cash flow. Real cash flow includes vacancy, capex reserves, property management, repairs, insurance, and taxes — and the typical retail pro forma underestimates total expenses by 30–50 percent.
The nine indicators
The nine variables of real cash flow.
Each is a line item the disciplined investor models. The composite produces a cash flow estimate that survives year three rather than only year one.
Vacancy reserve at 8% of gross rent
Threshold: 8% of GSI
5% is the optimistic case. 8% reflects realistic turnover, market vacancies, and time-to-lease realities. Lower for stable tenants, higher in transient markets.
Capex reserve at 5–10% of gross rent
Threshold: 5–10% of GSI
Roof, HVAC, water heater, flooring all eventually fail. Reserve for component replacement separately from minor repairs.
Repairs and maintenance at 5% of gross rent
Threshold: 5% of GSI
Routine repairs separate from capital expenditures. Minor plumbing, painting, lock changes between tenants.
Property management at 8–10% of gross rent
Threshold: 8–10% of GSI
Even self-managed, value your time at this rate or anticipate hiring management later. Out-of-state holders should always include this line.
Property taxes at city/county current rate
Source: county assessor
Property taxes can rise dramatically after acquisition due to reassessment. Current owner's bill may be artificially low.
Insurance at $1,200–2,500/year for SFR
Source: actual quotes
Landlord insurance is typically 25% more than owner-occupied. In hurricane, wildfire, or flood zones, much more.
HOA fees if applicable
Source: HOA disclosure
HOA fees often exceed $200/month for condos and townhomes. Special assessments are not budgetable but are real.
Mortgage amortization (P&I)
Source: amortization schedule
Principal and interest payment. Note that principal paydown is forced savings, not cash flow.
Income tax on net rental income
Method: depreciation included
Net rental income is taxable. Depreciation shelters meaningful income but recaptures at sale. Model this honestly.
The 1% rule and why it stopped working
The '1% rule' — monthly rent should equal 1 percent of purchase price — was a useful screening heuristic in pre-2010 markets where prices and rents had different elasticities. In 2024–2026 conditions, the 1% rule fails in nearly every appreciating market. Properties that meet 1% are typically in declining markets where the cap rate compensates for capital risk.
The replacement is full cash-flow modeling. Forget the 1% rule. Build the pro forma from the bottom up using the nine variables, and let the cap rate fall where it falls. If the resulting cash flow is positive after honest expenses, the property may be worth pursuing.
The vacancy reserve most pro formas miss
New investor pro formas typically assume 100 percent occupancy. Even good operators experience vacancy. The 8 percent reserve covers an average of one month vacant per year plus the friction costs of turnover (cleaning, painting, marketing, lease commission).
Markets with stable tenants and high demand can run lower vacancies; transient markets (vacation, college towns, military) run higher. The reserve is not optional; it is the realistic operating cost of running rental property.
Capex versus repairs
Capital expenditures replace major systems. Roofs last 20–30 years. HVAC systems 12–18. Water heaters 10–15. Flooring 7–15 depending on type. The reserve required to fund these replacements without disturbing cash flow is approximately 5–10 percent of gross rent on most single-family properties.
Repairs are the smaller, more frequent items: a leaking faucet, a clogged drain, a broken window, a tenant-caused issue between leases. The 5 percent repair reserve is on top of the capex reserve.
Property management — the line item self-managers ignore
Self-managing landlords often skip the property management line entirely from their pro forma. The implicit assumption is that their time has zero opportunity cost. The discipline is to value the time at 8–10 percent of gross rent regardless of who actually does the work, because either you pay a manager or you spend the equivalent in your own time.
Out-of-state holders should always include the line because professional management will be required at some point. Holders self-managing locally can capture the saving as net cash flow — but the calculation should reflect what would change if life circumstances forced a transition to professional management.
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Common questions
Questions.
What's a reasonable cap rate?
Varies by market and risk. Class A urban: 4–6%. Class B suburban: 6–8%. Class C and rural: 8–12%. Lower cap = higher quality and lower risk.
Are vacation rentals different?
Yes. Higher gross income, dramatically higher expenses (cleaning, channel fees, dynamic pricing, regulation risk). Different model entirely.
How do I model rent growth?
Conservatively. 2–3% annual rent growth in stable markets is typical; high-growth markets can support 4–5%. Don't model growth above local wage growth long-term.
What about depreciation tax benefits?
Depreciation (1/27.5 of building value annually for residential) shelters significant income. Recaptures at sale at 25%. Important but not free money.
Can I use cost segregation studies?
Yes for higher-value properties. Cost seg accelerates depreciation by classifying components into shorter recovery periods. Cost-effective above approximately $400K building value.
Is house hacking different from rental?
Yes — owner-occupied with rental units gets different financing (FHA, conventional owner-occupied) and different tax treatment. Often the best entry into rental real estate.
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