Cash flow
Investing & metrics
Definition
What is left in your pocket after every cost including the full mortgage payment. It differs from taxable profit chiefly because depreciation reduces tax without touching cash, and principal consumes cash without being an expense.
Photo: Angie Reyes · Pexels
What it means
Cash flow is what is actually left in your bank account after a rental has collected its rent and paid everything it owes — including the mortgage principal that no deduction covers.
It is the plainest measure in property, and the one most often confused with two neighbours that look similar and are not:
Cash flow is not net operating income. Net operating income deliberately excludes financing, because it measures the property. Cash flow includes it, because it measures your position.
Cash flow is not taxable income. Taxable income subtracts depreciation, which is not a payment, and does not subtract mortgage principal, which is. Those two differences run in opposite directions, which is why a property can show a tax loss and a positive bank balance, or the reverse.
The calculation is a subtraction chain:
Gross rent, less vacancy and credit loss, less operating expenses, less debt service, less capital spending — equals cash flow.
Most published cash-flow figures stop before that last item, which is why they flatter. A roof is not an operating expense, but the money for it leaves the same account.
Why it matters
Cash flow is what pays for the next repair, and it is the number that decides whether a property can survive a bad month without a transfer from your own savings.
Work the canonical property through. Rent of $28,800, operating expenses of $8,270, and a loan of $248,000 with annual debt service of $13,782.60.
| Annual cash flow, canonical property | Amount |
|---|---|
| Gross rent | 28,800.00 |
| Property tax and insurance | (4,180.00) |
| Repairs and maintenance | (1,850.00) |
| Management, legal, mileage, supplies | (2,240.00) |
| Net operating income | 20,530.00 |
| Debt service — interest 9,240.00 | (9,240.00) |
| Debt service — principal | (4,542.60) |
| Cash flow | 6,747.40 |
That is $562.28 a month. Note what it is not: it is not the $11,290 that appears on the tax calculation, because that figure ignores the $4,542.60 of principal. The gap between $11,290 and $6,747 is the difference between the tax view and the bank view, and both are correct for their purpose.
Then note what still has to come out of it. A single turnover costs about $3,800 — $1,880 of work plus $1,920 of vacancy. That is more than half a year's cash flow, absorbed by one tenant moving. A water heater is another $1,400. This is why cash flow of $562 a month is not spending money; it is the reserve that stops an ordinary event becoming a personal loan.
How it works in practice
Calculate it annually, and reserve against it monthly.
Step 1 — start from collected rent, not scheduled rent. Subtract vacancy and uncollected rent; see vacancy rate. In a year with one turnover, $28,800 of scheduled rent becomes about $26,880.
Step 2 — subtract operating expenses only. Property tax, insurance, repairs, management, legal, mileage, supplies. Not the mortgage, not depreciation, not improvements.
Step 3 — subtract full debt service. Both parts. Principal repayment is real cash leaving, and omitting it is the single most common way an amateur cash-flow projection turns out to be wrong.
Step 4 — subtract capital spending. A capital improvement is depreciated for tax purposes but paid in full today. A year with a $6,000 roof has $6,000 less cash regardless of how it is deducted.
Step 5 — reserve. The standard practice is to set aside a fixed monthly amount for capital expenditure and vacancy rather than treat the whole surplus as available. On this property, reserving $200 a month for capex and $150 for vacancy leaves about $212 a month of genuinely free cash — a much more honest figure to plan against.
Step 6 — reconcile it to the bank. Cash flow that does not match the change in the account balance over the year means something is uncategorised. That is the check that keeps the number real.
Common mistakes
- Omitting principal. Interest is the deductible half; principal is the half that still leaves your account.
- Using scheduled rent. No property collects 12 months of rent every year forever.
- Ignoring capital spending. It does not appear on the profit calculation and it empties the account anyway.
- No reserves. Turnovers and appliances are certainties on a long enough timeline; treating them as surprises guarantees they arrive as ones.
- Confusing it with taxable income. Depreciation and principal move the two figures in opposite directions.
- Measuring monthly. Rent is monthly, tax and insurance are not. Annualise, then divide.
How BareBones PM helps
Cash flow is only as good as the categorisation underneath it, and the categorisation is where small portfolios lose the plot.
BareBones PM records income and expenses per property with the split that matters: operating expenses separated from debt service, and interest separated from principal within the mortgage payment. That one distinction is what makes cash flow and net operating income both computable from the same ledger rather than estimated separately.
Capital improvements are recorded as their own items rather than being folded into repairs, so the year with a new roof shows the cash impact and the depreciation treatment without conflating them.
Because everything posts against a property, the figures reconcile to the account they came from, and the same ledger produces the tax view at year end.
For how the underlying transactions are recorded, see The rent ledger.
Photos: https://kaboompics.com/, Franco Sulli · Pexels
Related terms
- Net operating incomeIncome after operating expenses but before mortgage payments, depreciation and capital spending. It measures the property itself rather than your financing, and it is the numerator behind cap rate and debt coverage.
- Debt serviceThe total mortgage payment, principal and interest together. Only the interest is deductible, so debt service and deductible expense are different figures — a distinction that trips up first-year landlords reliably.
- Cash flow statementA report of cash actually moving in and out over a period. It differs from the income statement chiefly because of non-cash items like depreciation and because mortgage principal consumes cash without being an expense.
- Cash-on-cash returnAnnual pre-tax cash flow divided by the cash you actually put in — deposit, closing costs, initial works. It answers what your money is earning, which cap rate deliberately ignores because it disregards financing.