Rental Yield, Cap Rate, and Cash Flow: A Worked Example for New Investors

Before you buy a rental property, you need a few simple numbers to tell you whether the deal makes sense. Gross yield, cap rate, cash flow, and cash-on-cash return each answer a different question. This guide explains them in plain English and walks through one worked example.

Important: every number below is hypothetical and chosen to make the math easy to follow. It is not a forecast for any market, property, or interest rate, and it’s not investment advice. Run your own numbers with real quotes, and consider talking with a licensed professional.

The hypothetical property

Let’s imagine a small single-family rental:

Purchase price: $300,000
Closing costs and initial repairs: $10,000
Expected monthly rent: $2,400
Down payment: 25% ($75,000)
Loan amount: $225,000

We’ll estimate annual operating expenses (excluding the mortgage):

Expense	Annual (hypothetical)
Property taxes	$4,800
Insurance	$3,000
Maintenance and repairs reserve	$2,400
Capital expenditures reserve (roof, HVAC, etc.)	$1,800
Property management (assume 8% of collected rent)	$2,189
Vacancy allowance (assume 5% of gross rent)	$1,440
HOA, utilities, other	$600

Annual gross scheduled rent is $2,400 × 12 = $28,800.

Metric 1: Gross rental yield

Gross yield = annual gross rent ÷ purchase price

$28,800 ÷ $300,000 = 9.6%

Gross yield is a fast filter for comparing listings, but it ignores expenses entirely. Two properties with the same gross yield can perform very differently once taxes and insurance are counted. In Florida, insurance costs in particular can vary a lot by location and property age, so get real quotes.

Metric 2: Net operating income (NOI)

NOI is income after operating expenses but before mortgage payments and income taxes.

First, effective gross income: $28,800 − $1,440 vacancy = $27,360.

Management at 8% of collected rent: $27,360 × 0.08 ≈ $2,189 (already in our table).

Operating expenses excluding vacancy: $4,800 + $3,000 + $2,400 + $1,800 + $2,189 + $600 = $14,789.

NOI = $27,360 − $14,789 = $12,571

Metric 3: Cap rate

Cap rate = NOI ÷ purchase price

$12,571 ÷ $300,000 ≈ 4.2%

Cap rate shows the property’s return as if you paid all cash, which makes it useful for comparing properties regardless of financing. Notice how far it is below the 9.6% gross yield. That gap is why you should never stop at gross yield.

Cap rates are also used by appraisers and commercial investors to estimate value: Value ≈ NOI ÷ market cap rate. A higher NOI at the same market cap rate means a higher value, which is why reducing expenses or raising rent responsibly can build equity.

Metric 4: Monthly cash flow

Now add financing. Let’s assume a hypothetical 30-year fixed loan of $225,000 at 7.0% interest. Using a standard amortization formula, principal and interest come to about $1,497 per month, or about $17,964 per year.

Annual cash flow = NOI − annual debt service

$12,571 − $17,964 = −$5,393 per year, or about −$449 per month.

In this hypothetical, the property loses money every month. That’s not unusual in higher-rate environments and markets where prices have risen faster than rents. Some investors accept negative cash flow betting on appreciation, but that’s speculation, and it requires reserves to cover the shortfall.

Metric 5: Cash-on-cash return

Cash-on-cash = annual pre-tax cash flow ÷ total cash invested

Total cash invested = $75,000 down + $10,000 closing and repairs = $85,000.

−$5,393 ÷ $85,000 ≈ −6.3%

What would make this deal work?

Let’s test a few levers (still hypothetical):

Lower price. At $250,000 with the same rent, the loan drops, debt service falls, and the cap rate rises.
Larger down payment. Putting 40% down reduces the mortgage payment but ties up more cash, which can lower cash-on-cash return.
Self-management. Removing the 8% management fee adds about $2,189 to NOI, but you trade money for time.
Lower rate. Each percentage point of interest changes the payment meaningfully; you can test this with any amortization calculator.
Higher rent. Only if the market supports it. Check comparable listings rather than assuming.

A spreadsheet that lets you flip these assumptions is one of the best tools a new investor can build.

Common mistakes

Using the listing’s “pro forma” numbers. Seller projections often assume full occupancy and low expenses.
Forgetting capital expenditures. Roofs, water heaters, and HVAC systems wear out on a schedule whether you budget for them or not.
Underestimating insurance and taxes. Property taxes can be reassessed after a sale in many states, including Florida, where a homestead cap on the seller’s home doesn’t transfer to an investor.
Ignoring vacancy and turnover. Cleaning, repairs, and marketing between tenants cost money even in tight markets.
Mixing up cap rate and cash-on-cash. Cap rate ignores financing; cash-on-cash includes it.

Rules of thumb (use with caution)

You’ll hear shortcuts like the “1% rule” (monthly rent should be at least 1% of the purchase price) or the “50% rule” (operating expenses are roughly half of rent). In our example, rent is 0.8% of the price and expenses are about half of collected rent. Rules of thumb can help you screen listings quickly, but they don’t replace a line-by-line analysis.

Taxes

Rental income and expenses have specific tax treatment, including depreciation, which can make a property with negative cash flow look different after taxes. The IRS explains the basics in Publication 527, Residential Rental Property. Talk to a tax professional about your situation.

The bottom line

Gross yield gets you interested, NOI and cap rate tell you about the property, and cash flow and cash-on-cash tell you about your deal. Run all of them with conservative, verified assumptions. Once you own a rental, good systems matter; see landlord software categories and how to screen tenants legally.

Rental Brief provides general information, not legal, tax, insurance or financial advice. Laws vary by location and change over time; verify current rules and consult a licensed professional. See our Disclaimer.