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Sep 11, 2022 · Here are the 12 real estate investing calculations every investor needs to know before purchasing a property. How to calculate NOI, IRR, Cap Rate, and more!
- 46 min
- Net Operating Income (NOI) NOI tells you how much money you make from a given investment property. It’s a version of a high-level income statement. To calculate it, take your total income and subtract operating expenses.
- Capitalization Rate (Cap Rate) Cap rate is the real estate equivalent of the stock market’s return on investment. It’s the ratio between the amount of income produced by a property to the original capital invested (or its current value).
- Internal Rate of Return (IRR) IRR estimates the interest you’ll earn on each dollar invested in a rental property over its holding period. It’s the rate of growth that a property has the potential to generate.
- Cash Flow. Cash flow is a sign of how well your business is – or isn’t – doing. It’s your net cash left at the end of the month after you’ve received your rents and paid your expenses.
- Cash-on-Cash Return (c-o-c) Cash-flow divided by cash invested. This is perhaps the easiest to understand and most commonly-used metric in real estate.
- Internal Rate of Return (IRR) The 800 lb. gorilla in the room. In our opinion, IRR is the undisputed heavyweight champion of return metrics related to multifamily real estate.
- Equity Multiple. This metric, like cash-on-cash return, is easily understood by most investors. It’s usually quoted as “3x” or “2.5x” to signify how many times the money you initially invested is worth at the end of the investment lifecycle.
- Average Annual Return (AAR) Like the three metrics discussed so far, the AAR is a measure of return. AAR is simply the average of annual returns across the life of the deal.
- Net Operating Income. The net operating income (NOI) is the gross operating income (total revenue produced by a property) minus the operating expenses, calculated over the course of one year.
- Cap Rate. The capitalization rate (cap rate) is one of the most popular investment metrics. It is a percentage that measures the expected yield of a property over the course of a year, assuming it was purchased in cash.
- Gross Rent Multiplier. Similar to the cap rate, the gross rent multiplier (GRM) is another way to evaluate the potential yield of an income-generating property.
- Cash Flow. The cash flow is the amount of profit that an investment property generates after all expenses, including mortgage payments and setting aside reserves, have been subtracted from the income.
- Your Mortgage Payment. For a standard owner-occupied home, lenders typically prefer a total debt-to-income ratio of 36%, but some will go up to 45% depending on other qualifying factors, such as your credit score and cash reserves.
- Down Payment Requirements. While owner-occupied properties can be financed with a mortgage and as little as 3.5% down for an FHA loan, investor mortgages typically require a down payment of 20% to 25% or sometimes as much as 40%.
- Rental Income to Qualify. While you may assume that, since your tenant's rent payments will (hopefully) cover your mortgage, you should not need extra income to qualify for the home loan.
- Price to Income Ratio. This ratio compares the median household price in an area to the median household income. In 2011, after the housing bubble, it was 3.3, in 1988, it was 3.2, and in October 2020, it was about 4.0.
Here is a list of real estate metrics discussed in this article: Cash on Cash Return; Equity Build-Up Rate; Net Present Value of Future Cash Flows; Capitalization(Cap) Rate; Internal Rate of Return; Net Operating Income; Price to Rent Ratio; Debt Service Coverage Ratio; Break-Even Ratio; Rent Per Square Foot; Loan to Value Ratio; 1) Cash on ...
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Sep 12, 2024 · Mastering financial statement analysis is crucial in real estate, where understanding these metrics can significantly impact your investment decisions. These metrics provide the insights needed to optimize portfolios, manage risks, and achieve long-term growth.
