Most investors who lose money on rental properties made the same mistake: they fell in love with a property before running the numbers. These three metrics — cap rate, cash-on-cash return, and gross rent multiplier — let you evaluate any property in under 10 minutes.
Step 1: The 1% Rule Screen (30 Seconds)
Before doing any deeper analysis, apply the 1% rule: monthly rent ÷ purchase price ≥ 1%.
| Purchase Price | Minimum Monthly Rent to Pass 1% Rule |
|---|---|
| $100,000 | $1,000 |
| $150,000 | $1,500 |
| $200,000 | $2,000 |
| $300,000 | $3,000 |
| $400,000 | $4,000 |
If a property fails this screen in your market, move on — or understand you’re buying for appreciation, not cash flow. In high-cost markets, you will rarely find a property meeting the 1% rule; in those markets, adjust your expectations toward appreciation and equity building.
Step 2: Calculate Net Operating Income (NOI)
NOI is the foundation of every other metric. It is gross rental income minus all operating expenses — but not including mortgage payments.
NOI Formula
NOI = Gross Rent − Vacancy − Operating Expenses
Worked Example: 3-Bedroom House, Purchase Price $230,000
| Income/Expense | Annual | Monthly |
|---|---|---|
| Gross rent (market rate) | $24,000 | $2,000 |
| Vacancy allowance (5%) | −$1,200 | −$100 |
| Effective Gross Income | $22,800 | $1,900 |
| Property taxes | −$3,200 | −$267 |
| Homeowners insurance | −$1,400 | −$117 |
| Maintenance/repairs (10% of rent) | −$2,400 | −$200 |
| Property management (8% of rent) | −$1,920 | −$160 |
| CapEx reserve (roof, HVAC, appliances) | −$1,800 | −$150 |
| Total Operating Expenses | −$10,720 | −$894 |
| Net Operating Income (NOI) | $12,080 | $1,006 |
Note: No mortgage payment is included in NOI. That’s intentional.
Step 3: Cap Rate
Cap Rate = NOI ÷ Purchase Price × 100
Using the example above: $12,080 ÷ $230,000 × 100 = 5.25% cap rate
Cap Rate Benchmarks by Market Type
| Market Type | Typical Cap Rate Range | Example Markets |
|---|---|---|
| High-cost coastal | 3–5% | NYC, LA, San Francisco, Seattle |
| Major metros (mid-cost) | 5–7% | Denver, Austin, Nashville, Phoenix |
| Secondary cities | 6–9% | Columbus, Indianapolis, Memphis |
| Small cities / rural | 8–12%+ | Smaller Midwest/South markets |
A 5.25% cap rate is decent for a mid-cost market. It means if you paid all cash, you’d earn 5.25% annually before taxes — comparable to a bond.
Cap rate does not account for financing. That’s why you also need cash-on-cash return.
Step 4: Cash-on-Cash Return
Cash-on-cash (CoC) measures actual cash flow relative to cash invested. This is the number that tells you whether the investment works for you with your actual mortgage.
Cash-on-Cash = Annual Pre-Tax Cash Flow ÷ Cash Invested × 100
Continuing the Example (25% Down, 6.9% Mortgage Rate)
| Annual | Monthly | |
|---|---|---|
| NOI | $12,080 | $1,007 |
| Mortgage payment (6.9%, 30-yr, $172,500 loan) | −$9,780 | −$815 |
| Annual Pre-Tax Cash Flow | $2,300 | $192 |
| Cash Invested | Amount |
|---|---|
| Down payment (25%) | $57,500 |
| Closing costs (~2.5%) | $5,750 |
| Initial repairs / turnover | $3,000 |
| Total Cash Invested | $66,250 |
Cash-on-Cash Return = $2,300 ÷ $66,250 = 3.47%
A 3.47% cash-on-cash return is modest. You’re earning $192/month in cash flow on a $66,250 investment. Many investors set a minimum threshold of 5–8% CoC before buying.
How Financing Affects Cash-on-Cash
| Scenario | Monthly Cash Flow | Annual CoC |
|---|---|---|
| All cash, no mortgage | $1,007 | 5.25% (= cap rate) |
| 20% down, 6.9% rate | $113 | 1.74% |
| 25% down, 6.9% rate | $192 | 3.47% |
| 25% down, 5.5% rate | $360 | 6.52% |
Higher interest rates crush cash-on-cash returns. This is why many properties that penciled out at 3% rates no longer work at 6.9% — the math changed, not the property.
Step 5: Gross Rent Multiplier (GRM)
GRM is a faster, rougher metric. It’s the purchase price divided by annual gross rent.
GRM = Purchase Price ÷ Annual Gross Rent
Lower GRM = better value relative to gross income
$230,000 ÷ $24,000 = GRM of 9.6
| GRM Range | General Implication |
|---|---|
| Under 7 | Potentially strong cash flow market |
| 7–10 | Moderate cash flow potential |
| 10–15 | Likely appreciation-focused market |
| Over 15 | Very difficult to generate cash flow |
GRM is useful for quick comparisons between multiple properties in the same market. It ignores expenses, so it’s not a substitute for full NOI analysis.
The Full Deal Analysis Template
Before making an offer, complete this analysis:
| Metric | Your Property | Minimum Target |
|---|---|---|
| Monthly rent | $_____ | $_____ |
| 1% Rule (rent ÷ price) | ____% | ≥ 1.0% |
| NOI | $_____ | Positive |
| Cap Rate | ____% | ≥ 5% (market dependent) |
| Cash Invested | $_____ | — |
| Annual Cash Flow | $_____ | Positive |
| Cash-on-Cash Return | ____% | ≥ 5% |
| GRM | _____ | < 12 |
| Vacancy Rate (local market) | ____% | < 8% |
| 5-Year NPV at exit | $_____ | Positive |
What the Numbers Don’t Tell You
Even strong numbers can hide problems:
- Deferred maintenance: A fresh coat of paint hides an aging roof. Always get an inspection.
- Rent at market rate?: Verify against comparable rentals — sellers sometimes show pro-forma (optimistic) rent figures, not actual achievable rent.
- Neighborhood trajectory: A 9% cap rate in a declining market is worse than a 6% cap rate in an improving one.
- Management reality: Self-managing saves 8–10% but costs you time. Model both scenarios.
- Financing availability: Investment property loans require 15–25% down and carry higher rates than primary residence mortgages.
Before you buy, the full due diligence checklist is at before you buy an investment property. Once you own the property, the ongoing operational framework is at property management guide. For investors who want real estate returns without property management, see REITs explained for the passive alternative.
The content on Wealthvieu is for informational purposes only and should not be considered financial, tax, or investment advice. Consult a qualified professional before making financial decisions. Full disclaimer · Editorial policy