Wednesday, February 1, 2017

Real Estate Investment Calculations [part 1]

Below are common equations used to analyze real estate investments.

Real Estate Math

1. Scheduled Gross Income [SGI]
This is the total income a property could generate if all units were rented.   Add all the income on units that are rented and are not rented and you'll get your scheduled gross income.  (Note: You can also factor in other income, such as soda machines, coin laundry, etc., but not for this example)

8 units x $700 per unit = $5,600 per month
$5,600 per month x 12 months = $67,200 per year SGI

2. Effective Gross Income [EGI]
EGI is the Scheduled Gross Income minus your vacancy rate.  If  a history of vacancies is available to you, I'd recommend calculating the past 3 years to come up with an average .  If you don’t have a rental history, use 5% of SGI as a rule of thumb.  (Note: you can also add in additional sources of income including soda machines, coin laundry, etc.  For this example, I’ve left it out.)

$67,200 SGI - 5% = $63,840 EGI

3. Net Operating Income [NOI]
This is the remaining income after all operating expenses have been paid, including property tax, insurance, utilities, maintenance and management.  Operating expenses don't include the mortgage.

$63,840 EGI - ($3,000 taxes + $1,800 insurance + $3,600 utilities + $4,800 maintenance) =
$50,640 NOI

4. Net Cash Flow
The net cash flow remaining after the mortgage payment is deducted from NOI.

$50,640 NOI - (2,577.21 mo. x 12 mos.) $30,926.52 per year = $19.713.48 Net Cash Flow

5. CAP  Rate
CAP = NOI / Sales Price   or   Net Income = Sales Price x Cap Rate
CAP Rates are good for comparing the rate of return on properties within a particular geographical market.  CAP Rates don’t take into consideration the mortgage, appreciation or depreciation, or market conditions, and are focused on one year.  The higher the CAP Rate, the better.

$50,640 NOI ÷ $500,000 sales price = 10.12% CAP Rate

6.  Cash on Cash Return
Cash on Cash Return is a form of ROI.  Sometimes the two are used synonymously.

So for the above example:

Net Cash Flow / Initial Investment  = Cash on Cash Return

$19,713.48 / 100,000 = .1971 or 19.71% Cash on Cash Return

* the initial investment includes down payment and closing costs.

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