Question 1

What is a cap rate?

Accepted Answer

Cap rate (capitalization rate) is net operating income divided by property price, expressed as a percent. NOI is rent minus vacancy minus all operating expenses — but before mortgage payments. Cap rate is the unleveraged return on the property itself, useful for comparing properties regardless of how they're financed. A 7% cap rate means the property generates 7% of its value in NOI each year.

Question 2

What is NOI (net operating income)?

Accepted Answer

NOI is annual rent (after vacancy) minus all operating expenses: property tax, insurance, maintenance, management fees, HOA, utilities you pay, trash, landscaping, and any other recurring costs. It specifically does NOT include mortgage principal or interest — those are financing costs, not operating costs. NOI is what the property itself earns before financing.

Question 3

What is cash-on-cash return?

Accepted Answer

Cash-on-cash return is your annual cash flow divided by your total cash invested, expressed as a percent. Cash flow is NOI minus mortgage payments. Cash invested is down payment plus closing costs plus any upfront rehab. It's the most important metric for leveraged investors because it tells you the actual return on the money you put into the deal. A 10% cash-on-cash return doubles your investment in about 7 years from cash flow alone.

Question 4

What is the 1% rule in real estate?

Accepted Answer

The 1% rule is a quick screening test: monthly rent should be at least 1% of the property's purchase price. On a $250,000 property that means $2,500/month rent. Properties meeting the 1% rule usually cash flow with typical financing; properties well below often don't. The 1% rule is a heuristic, not a guarantee — always run the full numbers. In many hot coastal markets, properties rarely meet 1% anymore; in Midwest cities they often exceed 1.5%.

Question 5

Gross yield vs. net yield — which should I use?

Accepted Answer

Gross yield is a rough screener — annual rent ÷ price. Net yield (cap rate) is the real metric — NOI ÷ price. Always use cap rate to compare properties. A property with 10% gross yield and 4% cap rate has heavy expenses; another with 8% gross yield and 6% cap rate has better net economics. Gross yield can be misleading when expenses vary (HOA fees, aging systems, high-tax areas).

Question 6

What vacancy rate should I use?

Accepted Answer

5-10% is typical for long-term residential rentals in stable markets. Use 5% for strong landlord-friendly markets and well-maintained properties in desirable areas. Use 8-10% for average markets. Use 15%+ for rougher neighborhoods or declining areas. Short-term rentals have much higher vacancy rates (typically 30-50% depending on seasonality). If the property has rented continuously for years, you can use lower numbers — but don't go below 3-5% as a reserve.

Question 7

What counts as operating expenses?

Accepted Answer

Everything it takes to run the property: property tax, insurance, maintenance (budget 1% of property value per year as a reserve, even in quiet years), property management fees (8-12% of collected rent if managed), HOA dues, utilities you pay as the landlord, lawn care, trash, pest control, and capital reserves for big-ticket items (roof, HVAC, water heater — spread over their useful life). Mortgage principal and interest are NOT operating expenses — they're debt service.

Question 8

Why are investment property mortgage rates higher?

Accepted Answer

Lenders view investment properties as higher risk than primary residences — in a downturn, borrowers are more likely to default on a rental than their own home. Investment property rates typically run 0.5-1% higher than primary residence rates. Lenders also require higher down payments (15-25% minimum), better credit scores (typically 680+), and more cash reserves (6+ months of payments in the bank). Some programs (DSCR loans, portfolio loans) offer more flexibility but at higher rates still.

Question 9

Should I prioritize cash flow or appreciation?

Accepted Answer

It depends on your strategy and risk tolerance. Cash-flow properties (midwest, Sun Belt) pay you monthly but appreciate slowly. Appreciation plays (coastal cities, hot growth markets) often cash flow negatively but can generate big equity gains if prices keep rising. Cash-flow is lower-risk and scales through acquisition. Appreciation is higher-upside but depends on market timing. Most experienced investors focus on cash flow first (to stay solvent through downturns) and treat appreciation as an upside bonus.

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