Expenses or debt service? How do rental esimates work?

[Justin Megna]

I understand that a typical rental analysis takes the monthly rental amount, sets aside 5% for vacancies, estimates 50% for expenses, and then makes sure the remaining 45% pays debt service and leaves a profit.

But I've noticed that mortgage calculators often include insurance and tax payments in their monthly mortgage payment estimates. Aren't insurance and taxes typically considered part of the 50% for expenses rather than the 45% for debt service? So when I'm running rough numbers, should I only apply the principal and interest costs to the 45%? Can I presume insurance, taxes, maintenance, and management costs will be covered by the 50%?

Thanks for the help!

Justin

[Greg M.]

Originally posted by @Justin Megna:

I understand that a typical rental analysis takes the monthly rental amount, sets aside 5% for vacancies, estimates 50% for expenses, and then makes sure the remaining 45% pays debt service and leaves a profit.

No idea where you got these numbers, but anyone who runs a business using such simplistic numbers is destined to fail.

You have real numbers, use them. Put them into a spreadsheet. Factor in your opportunity cost of capital (down payment) and your monthly principal reduction. Factor in the expected life of major improvements and their replacement cost. Does the area typically experience appreciation? Figure out actual vacancy rates. Average tenant stays around 3 years, so if you're guessing 5% for vacancy, you're factoring in 2 months between tenants. That sounds like a long time for most areas. 

As for profit, what is a profit to you? I'm OK buying a unit that has negative cash flow as long as the principal reduction and appreciation offset it to an acceptable return. Other people on these forums would slit their wrists if the unit failed to provide enough free cash flow and they could care less about principal reduction and appreciation.