What is Spendable Income?
Spendable Income, commonly known as after-tax cash flow, is the portion of income that property owners or real estate investors retain after all obligatory payments, including operating expenses, mortgage payments, and taxes, have been made. Spendable Income is a critical metric because it represents the actual amount of money available for reinvestment, savings, or personal use.
Key Characteristics of Spendable Income:
- Operating Expenses: These include maintenance costs, property management fees, insurance, and utilities.
- Mortgage Payments: Monthly or periodic payments made towards the principal and interest of any financing used to purchase or improve the property.
- Taxes: These include property taxes and income taxes on rental income.
Understanding Spendable Income helps investors assess the profitability of a property and make informed decisions about their real estate investment portfolios.
Example Calculations:
Example 1:
- Rental Income: $3,000/month
- Operating Expenses: $800/month
- Mortgage Payment: $1,200/month
- Taxes: $200/month
Spendable Income Calculation:
\[ \text{Spendable Income} = \text{Rental Income} - (\text{Operating Expenses} + \text{Mortgage Payment} + \text{Taxes}) \]
\[ \text{Spendable Income} = $3,000 - ($800 + $1,200 + $200) = $800/month \]
Example 2:
- Rental Income: $4,500/month
- Operating Expenses: $1,000/month
- Mortgage Payment: $1,500/month
- Taxes: $300/month
Spendable Income Calculation:
\[ \text{Spendable Income} = \text{Rental Income} - (\text{Operating Expenses} + \text{Mortgage Payment} + \text{Taxes}) \]
\[ \text{Spendable Income} = $4,500 - ($1,000 + $1,500 + $300) = $1,700/month \]
Frequently Asked Questions about Spendable Income
1. How is Spendable Income different from Net Operating Income (NOI)?
Answer: Spendable Income accounts for mortgage payments and taxes, which are not included in the Net Operating Income (NOI) calculation. NOI reflects the profitability of the property before these deductions.
2. Can Spendable Income be negative?
Answer: Yes, Spendable Income can be negative if the operating expenses, mortgage payments, and taxes exceed the rental income of the property. This situation often calls for a reassessment of the property’s investment viability.
3. Is Spendable Income the same as profit?
Answer: While similar, Spendable Income specifically refers to cash flow available after all necessary deductions. Profit may include non-cash items like depreciation and is typically used in accounting.
4. Why is Spendable Income important to real estate investors?
Answer: It provides a true picture of the cash flow available from a property investment, allowing investors to plan for reinvestment, savings, or personal expenditures.
5. How can investors increase their Spendable Income?
Answer: Investors can increase Spendable Income by raising rents, reducing operating expenses, refinancing their mortgage at a lower interest rate, or optimizing tax strategies.
6. Do I need an accountant to calculate Spendable Income?
Answer: While you can calculate Spendable Income yourself, it’s advisable to consult with an accountant or financial advisor to ensure accuracy and optimize tax benefits.
Related Terms
Net Operating Income (NOI)
Definition: Net Operating Income (NOI) is the total income from a property after deducting operating expenses but before mortgage payments and taxes. It’s an indicator of a property’s revenue-generating ability.
Cash Flow
Definition: Cash Flow refers to the net amount of cash being transferred into and out of a business. In real estate, it pertains to rental income minus expenses such as operating costs and financing.
Gross Rental Income
Definition: Gross Rental Income is the total income received from rental properties before any expenses are deducted.
Debt Service
Definition: Debt Service refers to the periodic payments a borrower makes to cover the repayment of interest and principal on a loan. In real estate, this affects the net Spendable Income from a property.
Operating Expenses
Definition: Operating Expenses are the costs necessary to run and maintain a property, excluding mortgage payments. They often include maintenance, property management fees, insurance, and utilities.
Online Resources
- Investopedia: Real Estate Investing Guide
- IRS Guidelines for Real Estate Taxes
- BiggerPockets Real Estate Forums
References
- “Investing in Income Properties: The Big Six Formula for Achieving Wealth in Real Estate” by Kenneth D. Rosen
- “The Millionaire Real Estate Investor” by Gary Keller
- “Tax-Free Wealth: How to Build Massive Wealth by Permanently Lowering Your Taxes” by Tom Wheelwright
Suggested Books for Further Studies
- “Rich Dad Poor Dad” by Robert T. Kiyosaki
- “Real Estate Investing For Dummies” by Eric Tyson and Robert S. Griswold
- “The Book on Rental Property Investing” by Brandon Turner
