Investment properties can be a great way to generate income. However, not all properties are created equally, and it’s important to evaluate any potential investment to know whether you’ll make a sizable return—or if you’ll be saddled with a money pit.
Finding Comps
The first step in any real estate purchase is to find comparable properties in the area. The best comps have the similar square footage, the same number of bathrooms and bedrooms, and close proximity. Comps should also have been sold within the past year (although six months is a better time frame).
Comps can help ensure that you pay a fair market price for the property, and they’ll help you determine a competitive rental price for your units, too.
Net Operating Income
Calculating your net operating income (NOI) is actually fairly straightforward. You’ll start by figuring out your annual gross income by multiplying your monthly rent by 12. For example, a $1,200 rent will earn you a $14,400 annual gross income. However, you’ll also need to be aware of the potential for months with vacancies.
To get your net operating income, you’ll subtract your annual costs from the annual gross income. Those operating expenses can include maintenance, HOA fees, insurance, taxes, and if you financed your purchase, mortgage payments. Let’s say, in this case, the operating costs of this mortgaged property are $12,000, which means that your NOI is $2,400.
Cap Rates
The ideal capitalization rate, or the percentage of return you hope to achieve, is usually between 5 and 10%. If you divide your NOI by the cap rate, you can get an estimate of the property value. In this case, let’s assume a cap rate of 8%:
$2,400 / .08 = $30,000
This means that if you invested $30,000 of your money in this property, you should get an annual return of 8%.
If you’re interested in learning more about the value of investment properties, contact the experts at Reliable Property Management today!