What Is The Difference Between Cash Flow Before Taxes (CFBT) and Cash Flow After Taxes (CFAT)?

Published: 10th June 2011
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Real estate investors and real estate investing experts generally aim to be aware of cash flow after tax (CFAT) when looking for the profitability of investment property during a real estate analysis since it includes the elements of tax shelter and shows the money an investor might receive from the property after the Government takes a bite out of it.

Nonetheless, even with the popularity amongst real estate investors and most analysts seeking to know the cash flow after tax, there are some who simply want to the determine the cash flow that a property will generate before taxes. Fair enough. So what's the difference?

What is Cash Flow?

Cash flow is that flow of funds that result from money coming in and money going out. In other words, cash flow is in effect all the income produced by a rental property less all of the expenses required to own the property.

When you take in more money then you spend (i.e., money is leftover after all the bills are paid) the cash flow is "positive" and therefore available for you to take off the table and allocate elsewhere. On the flip side, if you spend more than you take in it results in a "negative cash flow" that requires you to pull money from your own pocket (i.e., outside the property account) to make up the deficiency, therefore creating a vacuum you must fill without any hope of residential cash.

What is CFBT?

CFBT, or cash flow before tax, can be best understood as the cash flows created from the property throughout a specific time period prior to any adjustment for income taxes. That is, it is the money remaining after the income is collected and the expenses and mortgage payment is made, but it does not take into account the property's impact on the owner's tax liability. In other words, it is income that must be declared by the owner to the Feds and as such is subject to taxation by the IRS.

This is how it's computed.

Say, for example, that your income-producing property produces an annual rental income (after vacancy allowance) of $58,000, operating expenses of $23,000, and the annual loan payment is $25,000. Your annual cash flow before taxes (CFBT) would be $10,000 (which is still subject to taxation).

What is CFAT?

Cash flow after tax essentially means that the cash flows produced by the rental property have been adjusted with regard to taxes and therefore does account for any income tax liability that the owner encounters by reason of operating the property. The calculation is clear-cut: Cash Flow Before Taxes less Income Tax Liability equals Cash Flow After Taxes.

Before we look at an example let's consider what income tax liability is and how it gets computed.

Tax liability is what the real estate investor and owner of the property owes in taxes based on the taxable income generated by the property. Here's the calculation: income less operating expenses (i.e., the net operating income) less deductions for depreciation, mortgage interest and loan points compute the taxable income. Then the taxable income is multiplied by the investor's marginal income tax rate (i.e., combined fed and state) to calculate the investor's income tax liability.

Okay, now let's consider an example.

Say that the net operating income generated by the rental property in one particular year is $32,833, furthermore, in that given year that the investor took the following allowable deductions: interest expense of $20,048, amortized mortgage points of $112, and depreciation of $11,710.

1) To begin with, we must first determine the taxable income. We do this by taking the net operating income of $32,833 and subtracting the total deductions taken of $31,870, which in turn results in a taxable income of $963.

2) Secondly, we multiply that taxable income of $963 by the investor's marginal tax rate in order to calculate the owner's income tax liability. In this case, we'll assume that the investor's marginal tax rate is 38%. Therefore, the resulting taxable income equals $366 (963 x .38).

3) Finally, we subtract that tax liability of $366 from the cash flow before tax (or CFBT) of $8,658 in order to compute the cash flow after tax (or CFAT), which in this case is $8,292. It should be pointed out, though, that if the tax liability was a negative amount it would mean that the investor lost money that year by owning the property and is entitled to a tax write off. In that case, the loss (which actually constitutes a tax savings) would be added to the cash flow before taxes.

Okay, now compare what the CFBT was to the CFAT so you can understand why this is important to real estate investors. Whereas before taxes, we were seeing a cash flow of $8,658, after settling with the Taxman we see $8,292. Granted, not that significant from our example, but you get the idea. There may be times when there is a significant difference. Therefore you would not want to invest in a rental property without full consideration of what the tax implications might be by owning that property.


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