How to Make Sure Your Pro Forma Statement Is Accurate

Joe Torre, RealWealth Investment Counselor

Joe Torre

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Are you double-checking the numbers in your pro forma statement? As investors, we need to be diligent about this process. Why? In a perfect world, sellers would provide us with accurate numbers. However, some sellers are consistently off in one or two line items, such as overstated rents or understated property insurance. 

You’ve probably heard someone tell you to “check your numbers” during your pro forma real estate analysis, but no one explains how to do it. In this post, I’ll go over the statement line by line so you can see which line numbers may be inaccurate and how to evaluate them. 

The more comfortable you become with this process, the better you’ll be able to make informed decisions and act quickly when single-family or multi-family investment deals arise.

Table of Contents

An Example Pro Forma Statement for Real Estate

Sample pro forma statement.

Before we discuss each line item, let’s review the details of our sample real estate pro forma.

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The first section starts with the following information:

  • Address: 123 Main Street in Ocala, Florida, 34472
  • Selling price: $200,000
  • Down payment: $50,000
  • Closing costs: $5,000
  • The total upfront investment comes to $55,000.

The following section outlines monthly income and expenses:

  • Rent: $1,800
  • Mortgage payment: $1,065
  • Property taxes: $250
  • Home insurance: $50
  • Property management: $144
  • The total monthly expenses come to $1,509.

The last portion shows calculations for:

  • Monthly cash flow: $291 ($1,800 rent-$1,509 expenses)
  • Annual return: $3,492 ($291 x 12)
  • Return on investment: 6.3% ($3,492 / $55,000)

Return on Investment Calculation

To calculate your return on investment, divide the annual return of $3,492 by the total invested, which is $55,000 ($3,492 / $55,000). In that first year, you’d get a 6.3% return on investment (ROI). 

Typically, the first year is the worst because that’s the year you pay closing costs, which you don’t do any other time. Also, the cash-on-cash return is worse in the first year but gets better as the rent increases over time.

If you are new to real estate investing, I suggest reading Leah Collich’s article, “Pro Forma Real Estate Analysis Made Easy: Increase Potential & ROI.”

Checking the Numbers in Your Pro Forma Statement

When a seller presents you with a pro forma real estate statement, it’s obviously in their best interest to make the numbers look as good as possible. As part of your due diligence, it’s up to you to check these numbers line by line to ensure that they are accurate and believable.

If you’d prefer to see me walk through the process of checking the numbers on a pro forma statement, watch my video “How to Do Your Due Diligence with Financial Projections.”

1. Checking Rent Price

Rent calculations on a pro forma statement for real estate.

The projected rent is $1,800 a month. How can you tell if that’s accurate, especially if you’ve never been to Ocala, Florida? An easy way to check this is to use real estate websites like RentCast, Zillow.com, or Redfin.com. RealWealth members receive an exclusive discount with RentCast. If you are not a member yet, join RealWealth today.

In the search field, input the zip code for the property. Then, filter the features to look for properties similar to the one you are considering as an investment property. For example, if the property has three bedrooms, two bathrooms and is 2,000 square feet, adjust the filters for these features.

In the image above, we can see that properties are renting for $1,775, $1,845, and $1,795. The projected rent of $1,800 is within that range and not extravagant.

As you check this line, the main questions to ask are:

Is the rental price in the ballpark of what similar properties are renting for? 

If the rental price is higher, ask the seller why they gave you that price. For example, if our example property was listed as renting for $2,000, but your rental price research showed that properties are renting for around $1,800, you’d need to call the seller out. Ask them to clarify why the price is $200 above the going rate. Why would somebody pay $2,000 a month when there are other properties just like it for $1,800?

How many similar rental properties are you competing with?

No matter which website you choose, it shows you the total number of properties available for rent in that area. In our Ocala example, there are 36 properties just like this one, which might make you a little uneasy as you’ll want your property to rent immediately. 

Even though our research shows that the $1,800 a month rent for our example property is believable, you might want it to rent faster. You decide to lower the rent to $1,750. Adjust your pro forma statement to reflect how you plan to market the property.

2. Checking the Mortgage Payment

Mortgage payment calculations on a pro forma real estate statement.

The mortgage payment is projected at $1,065 monthly, based on a 7% interest rate on a 30-year fixed loan. You’ll want to talk to your lender and negotiate your options to verify this number.

In this example, our mortgage loan options are:

  • Option1: $150K loan at 7%, 30-year-fixed at $1,065 per month
  • Option 2: $150K loan at 5.75% with a 7/1 ARM at $935 per month 

With the second option, you’ll get a lower interest rate, but the rate could change after seven years and only once a year; that’s what 7/1 means. 

Since you usually would only pay off a little principal during the seven years of a fixed loan, and since many investors only hold their properties for seven years, you decide you are losing little by choosing the 7/1 ARM. What you are gaining is a monthly payment that is $130 lower. 

However, there is one caveat: 

  • You must pay two points (2%) of the loan amount to “buy down” the interest rate, or $3,000.

In the pro forma statement, you would adjust this by adding $3,000 to the closing cost number and reducing the mortgage payment by $130.

3. Checking Property Taxes

The projected property taxes are $250 a month. For this example, the property is a new construction home, and tax estimates are usually accurate. We won’t make any changes to the property taxes.

Property taxes and renovated homes

There’s a pitfall to be aware of with renovated homes. Sometimes, the property tax listed is the assessed tax amount before renovations, not the current condition or value. 

For example, the seller bought the house for $100,000. They put $30,000 of work into it and are all in for $130,000. They sell it for $150,000. The property tax on the real estate pro forma statement might be based on the pre-renovation value of $100,000, not what it’s currently worth. The current tax rate might be higher, with the property valued at $150,000. 

How do you find out an accurate property tax amount? First, go to the county tax assessor’s website and determine how they assess property taxes. Be aware that some counties may tax rental properties differently than owner-occupied ones. Once you figure out the correct amount, adjust that line item on the pro forma statement. If the tax assessor’s website isn’t clear, you can always call the assessor for an estimate. They’ll need the address and listing price.  

For our example, we don’t have to do that because it’s a new home. They’ve sold many houses and have a reasonable property tax estimate.

4. Checking Home Insurance

Home insurance calculations on a real estate pro forma statement.

The projected home insurance is $50 a month or $600 a year. Now, the bank requires property insurance because the property is being used as collateral for the loan. Banks have specific policies requiring you to protect their investment, so they want you to ensure it properly. You’ll want to talk with your insurance agent about coverage and get a final quote to check this.

Additional Coverage & Umbrella Policy

You’ll also want to ask them if the property needs additional coverage, such as hurricane or flood insurance. This property is in Florida, which has hurricanes. However, Ocala is inland and not on the coast, so there’s less hurricane risk.

In this example, let’s add an umbrella insurance policy, which helps ease the monetary burden if you get sued. The million-dollar umbrella insurance policy costs $180 a year or $15 monthly. Go to the insurance line on the pro forma cash flow statement and add $15.

5. Checking Property Management Fees

Property management calculations on a pro forma real estate statment.

The projected property management fee is $144 a month or $1,728 a year. This fee is 8% of the rent ($1,800 X .08), which is typical. But, we lowered our rent to $1,750. So, with that new calculation ($1,750 X .08), the fee comes to $144 a month, which is $4 cheaper. Adjust that line in the pro forma statement.

It’s also essential to understand the property manager’s entire fee schedule. When brand-new tenants move in, they usually charge a month’s rent just for that. If the tenant renews next year, they typically charge a flat fee or 25% of a month’s rent. 

It’s up to you to understand the fee schedule and determine where that fits into your financial projections. 

For additional property management tips, please check out my article “How to Manage Your Property Manager.”

6. Adjusting for Vacancies and Maintenance

When it comes to a pro forma real estate analysis, there are a few more things we need to address. One is vacancy rates, and the other is maintenance.

Vacancy Reserve

Most tenants rent a property for an average of 30 months, meaning there will be a month of vacancy every 30 months. When a property is vacant, an investor takes some time, let’s say a month, to do a deep clean, clean the carpets, put on a fresh coat of paint, and advertise. A good rule of thumb is to add 3% of the rent for a vacancy reserve. You can also ask the property management company for their average vacancy rate.

The reserve is not an expense; it’s just money you set aside because you know the property will not be occupied 100% of the time, and you want to be financially prepared. Adding this projection to your pro forma statement helps you understand how much cash flow the property is really going to net.

Maintenance Reserve

Houses have problems; roofs need fixing, and a toilet backs up; whatever the problem, it is good to have a maintenance reserve. Here are some guidelines:

  • For a new home: 3% 
  • For an old home (ex. 1970s): 6%
  • For an older home (ex. 1950s) : 10% (No matter how well an older home has been renovated, it will require more maintenance.)

A benefit of newer homes is that everything’s still under builder warranty, and the builder fixes things for free. For the first year, there’s a bumper-to-bumper warranty. Then, there are extended warranties for the second year and up to 10 years. 

In our example, the investment property is a newer home, and you will subtract 3% of the rent for a maintenance expense. 

Pro Forma Real Estate Analysis Quick Summary

To help visualize the changes, we’ve created a new column to display the original and revised projections and compare the adjustments.

Pro forma statement summary:

 

  • Closing costs: We added $3,000 to the closing costs because we paid two points to “buy down” the interest rate. It is now at $8,000.
  • Rent: We reduced the rent by $50 to get it rented faster. It is now at $1,750.
  • Vacancy reserve: We added a line item for a vacancy reserve that subtracts $52. 
  • Mortgage payments: We have better mortgage terms, with a $130 reduction. It is now at $935.
  • Property taxes: We left this line item alone.
  • Insurance: We added an umbrella insurance policy, which increased the price by $15. It is now at $65. 
  • Property management: We reduced the rent, which reduced the property management fee by $4. It is now at $140.
  • Maintenance reserve: We added a maintenance reserve of $50 monthly in case anything happens.

Return on Investment Calculations

Our total expenses are now $1,492, compared to $1,509 in the original pro forma real estate analysis—a difference of $17. Our monthly cash flow is $258, or $3,096 annually. Our return on investment went from 6.3% to 5.3%. How can that be? We chose to “buy down” points, and our closing costs went from $5,000 to $8,000. The ROI calculation ($3,096 / $58,000) results in a percentage point decline.

Now that we’ve done a reality check against the seller’s projections in the pro forma statement, we can see that the numbers are reasonably close. As the investor in this example, you are happy with the 5.3% return and know it will only increase. Since this is a good investment, you move forward with the new-build property.

On the flip side, if you went through this process and determined that the property was not a good investment, you would need to talk with the seller to see what can be done, or you would have to pass on the property.

Find Your Next Investment Property with RealWealth

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Joe Torre, RealWealth Investment Counselor
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