If you’re thinking about purchasing an investment property, it’s smart to do some deal analysis first.
How do you analyze an investment property deal? There are three factors in deal analysis that you need to be familiar with: the GRM, or gross rent multiplier, the cap rate, which is the rate of return on the sale price, and ROI, which is your return on investment.
To show you how to calculate each of these important factors when analyzing a deal, I’ll use one of my clients’ recent purchases of an investment property as an example.
This client bought a property for $750,000 and put 25% down. His scheduled gross income is $88,830 and his debt service is $54,312.
Let’s calculate the GRM first. The GRM is important because it will let you know how long it will take for you to see a return on your investment. The GRM formula is the sale price divided by the scheduled gross income. With this in mind, we would divide this particular client’s initial sale price of $750,000 by his scheduled gross income of $88,830, which gives us 8.44. This means that this client can expect to see a return on his investment in about 8.5 years.
Three factors that will help you determine whether a property is a good investment.
Next, let’s determine the cap rate on this property. The cap rate refers to the rate of return on the sale price. To find out the cap rate, we’ll divide the net operating income by the sale price of the property. In this client’s case, we’ll divide $54,852 by $750,000, which gives us 7.31%.
Finally, to determine the ROI, which is basically the return on the down payment, we’ll divide the client’s cash flow by his down payment. Cash flow is calculated by subtracting your service from your net operating income. The ROI is about 2.9% in this instance.
In order to determine whether a real estate investment fits your real estate goals, it’s crucial that you analyze each aspect of every deal that interests you. A good real estate team will have systems and tools in place that will run all of the numbers for investor buyers, so be sure that your agent can do this for you.
If there is any way I can help you run a deal analysis on an investment property, or if you have any questions about real estate in general, please don’t hesitate to contact us by phone or email. I look forward to helping you!
