Effective Rate of return.

[James W.]

Hi everyone -

I see Net Lease property listings on the internet.

The bigger brand name tenants have Cap Rate of ~5%.

If I finance this property at 4% mortgage interest - is it correct to say that the net return is about 1%.

For example - a $1MM property leased out to Bank of America with listed 5% Cap Rate. That's ~50K a year.

Now if i get a loan on 750K @ 4% - thats just the payment of $3521*12 = 42K a year.

Add 15K of taxes - 57K.

In fact - there's no return at all in this example.

Am I doing this about right? 

[Jon Raccah]

James, 

your correct in assuming that its more difficult to create value in a net leased property. These investments are typically more for the stable income they provide. In todays enviroment, i believe to the net leased deals to be illogically overvalued. Its understandable as more economic turmoil overseas leads to more investment in the US, coupled with a natural desire to create passive income. 

So to answer your question, yes your calculations (for a rough "back of napkin" analysis) are close enough to give you the right conclusion. Also remember Cap Rate is used more as a market indicator than a true measure of return, everyone structures deals differently and has to see if the opportunity fits their model. In terms of "best" measure of return my favorite is equity multiple as its very simple and straight forward. 

P.S. just knitpicking here but the terminology i would use on the term "effective yield rate" rather than "Net Cap Rate" as you did in your third post.