Learn to apply and utilize the many calculations used to evaluate and select real estate investment properties. Your value to your real estate investor client is based on your ability to, not only locate suitable properties, but to also help them to analyze the return on their investment.
Real estate investors do a lot of number crunching, and that's a good thing. Learn why you should add absorption rate to your real estate investing toolbox.
If you're considering investing in real estate rental property, be sure that you understand the way that expenses and income are calculated and discussed. Operating expenses is one area of misunderstanding.
Each of the items below will show you a financial facet of owning a rental property. We are using a fourplex as our example property. All of the examples below will be based on these facts:[p]
[li]Property purchased for $325,000, with $65,000 down & $260,000 financed.[/li]
[li]This is a 30 year fixed rate loan at 6.5% interest.[/li]
[li]The four units are identical and rent for $900 per month …
In our series examining a fourplex rental property's income and taxes, we're now looking at the mortgage interest deduction. This is frequently one of the largest write-offs for the owner.
One of the advantages of owning rental real estate is tax deductions that can offset income from operations of that property as well as others in some cases. Here's how depreciation works on a rental property.
Many a wealthy person got that way with real estate. A smart buy on a rental property and good management can provide cash flow for other uses or investments. Here's a fourplex example.
Many believe that consistently better returns on investment can be realized in real estate investment rental property than can be gained in stocks or bonds investments. The start of the process is an accurate estimate of rental yield for a property. See how to calculate it here.
Real estate property taxation sometimes involves an equalization factor. This is used to bring the assessed tax values of certain properties into line with surrounding areas. Astute real estate investors may run into this, as they are choosing properties with upside appreciation potential in areas that haven't "taken off" yet.
When a new loan is involved in a real estate closing, mortgage interest is included in the prepaids portion of the HUD-1 settlement statement. The buyer prepays interest to the lender, because interest is paid in arrears, and the interest must be brought current to the date of the first payment.
When real estate investors assume a mortgage loan from the seller, there must be a proration of the mortgage interest due. As mortgage interest is paid in arrears, the seller will owe the buyer for the interest accrued to or through the closing date, but will be paid by the buyer with the next mortgage payment.
In some cases, the hazard or other insurance policy will be assumed by the buyer of a real estate investment property. When this occurs, the amount of the premium paid in advance, but unused at the time of closing, will have to be prorated. This is money the buyer owes the seller for the remaining policy coverage period.
In real estate investing, many purchases are for rental property. Prorating rent for the closing statement is of interest to all. Here's the how to of prorating rent.
A spreadsheet real estate financial calculator solution. Set up to quickly calculate gross potential income, gross operating income, gross rent multiplier, net operating income, cash flow before taxes, cash flow after taxes, break-even ratio and return on equity.
After the first year, or as a projection for future years, a real estate investor might want to calculate their return on equity for years after the first. This could be to determine if the return still justifies holding the property when it has appreciated in value and the mortgage has been paid down significantly.
Return on equity, as calculated in the first year of a real estate investment, is the cash return after taxes divided by the cash invested in the property.
The break-even ratio of a real estate investment is the total of the debt service and operating expenses divided by the gross operating income. It is expressed as a percentage, the lower the better when lenders are looking at a deal.
The break even ratio is used by lenders to assess risk in lending on an investment property.
When working with real estate clients, agents and brokers are frequently tasked to help buyers to determine what they can afford in a home. One of the factors is the size of the mortgage they can get. The loan to value ratio is the percentage of a property's value that is mortgaged. Lenders will make mortgages based on maximum loan to value for different types of properties.
Once the cash flow before taxes is calculated (learn how here), we can then subtract the tax liability for the resulting real estate investment property cash flow after taxes.
Cash flow is all the in and out flows of cash through a business, without regard to tax considerations. All money in or out is considered. The cash flow of a real estate investment is an important part of its viability as an investment.
Net operating income is the monetary result of subtracting operating expenses from Gross Operating Income. Gross operating income is that income after deductions for vacancy and credit loss.
For an income property that sold recently, you would divide the net operating income by the sold price to determine the capitalization rate. This percentage number could then be used to determine the value of another property if you know it's net income.
Compound interest is interest on principal plus interest on the accumulated interest.
Gross Rent Multiplier (GRM) is a tool used to assess the approximate value of a rental property by comparing its rental income with other like properties.
In real estate investment, we want to estimate the income of a property with a realistic estimate of losses due to vacancy and bad credit. We subtract those estimated amounts from Gross Projected Income to arrive at Gross Operating Income.
This is an easy calculation of the expected gross revenues from an income property. For rentals, the monthly or annual rents for all the units is totaled. No losses for vacancy or non-payment are considered. In other words, the property is considered fully occupied with all payments collected.
When a property is purchased and resold at a profit, this calculation will yield the percentage of profit based on purchase price.
If the net operating income of a property is known, and it is divided by the capitalization rate for similar properties, the approximate current value of the property will be determined.
Using the asking price of an income producing property and the capitalization rate of other similar properties in the area, one can calculate the income necessary to justify the asking price.
The formula and method for the calculation of simple interest. Used frequently by those in real estate investing.
Vacancy and credit loss is the estimated dollar amount of lost rental income due to vacant units and non-payment of rent.
Capitalization rate is a common method used in the process of arriving at the value of an income property, such as rental units, commercial rental space, etc. Learn the calculations you'll need as a real estate agent to work with your investor clients.
The calculation methods and tax rates for property transfer taxes vary significantly by state. However, some basic methods prevail. Learn here how rates are calculated, whether full selling price is used, cash at closing or assumed mortgage deducted.
