Cash flow is the money left in your pocket each month after a rental's rent collects and every cash obligation goes out: operating expenses, the full mortgage payment, and the money you set aside for repairs and vacancy. It is a cash measure, not a profit measure, so it ignores depreciation and counts the principal portion of your mortgage even though that part is not deductible.
The distinction trips up new owners constantly. A property can show a tax loss and still hand you a check every month, or look profitable on paper and quietly drain your bank account when a roof goes. Cash flow is the number that tells you whether you can keep holding.
In practice
Say you own a duplex that rents for $1,450 a unit, so $2,900 a month in gross rent, or $34,800 a year. Work it down to cash flow one line at a time:
- Gross rent: $34,800. Subtract a 5% vacancy and credit-loss factor, about $1,740, for $33,060 of collected rent.
- Operating expenses: $13,200. Taxes, insurance, water and trash, repairs, and a management reserve. That leaves $19,860, which is your net operating income.
- Reserves: $2,400. Set aside $100 per unit per month for capital items that wear out, like the furnace or the roof. Now you are at $17,460.
- Debt service: $14,400. A $1,200 monthly mortgage payment, principal and interest together. Subtract it and your annual cash flow is $3,060, or $255 a month.
Notice that the mortgage line includes principal, which builds your equity but is not a tax deduction. That is exactly why cash flow and taxable income are different numbers from the same building.
Why it matters to a small landlord
Cash flow is the cushion that keeps a vacancy or a $4,000 furnace from forcing a panicked decision. A property that nets $255 a month looks fine until two slow months and one repair erase a year of it, which is why the reserve line is not optional. The fastest way to keep the number honest is to record income and expenses as they happen rather than reconstructing the year every April; a short, repeatable routine like the 10-minute monthly close keeps the figure current. When you screen a deal before buying, run the cash flow against the cash you put in using a cash-on-cash calculator so a thin monthly number does not masquerade as a good return.
Cash flow sits between two cousins worth knowing. Net operating income stops before the mortgage, so it measures the property; cash flow keeps going and measures your wallet. Cash-on-cash return divides that annual cash flow by your invested cash to put a percentage on it. And the reserves you carve out are the line that decides whether positive cash flow survives a bad month or just looks good on the spreadsheet.