Useful Real Estate Investment Calculations

Buying real estate as an investment has proven to be a great way to save for retirement, supplement your primary income and shield your income from taxes. But before investing, you should know some basic and important calculations that will help you make the most of your money.

Cash Flow

• Cash In from Revenue – Cash Out from expenses = Cash Flow.
• Cash Flow includes debt service which are principal and interest payments on your loan.
• Most common real estate related revenues are rent, parking, laundry and advertising.
• Most common expenses are property taxes, supplies, maintenance, utilities, hazard insurance, leasing fees, management fees and marketing fees

Identifying potential cash flow for a building prior to making an offer is essential. If you are going to spend a large portion of your hard earned money buying an investment property, identifying the potential cash flow will help you choose one investment over the other. Of course, after purchasing the property, it will be good to track the true cash flow to see if the investment meets your expectations and identify ways in which you can maximize it.

Cap Rate

• Operating Income / Value or Projected Value = Cap Rate
• Operating Income = Operating Revenues – Operating Expenses
• Operating Revenues include rent, parking, laundry and advertising
• Operating Expenses include property taxes, supplies, maintenance, utilities, hazard insurance, leasing fees, management fees, and marketing fees
• Value can be the purchase price paid for a property or the projected value of the property at a point in time.
• When purchasing, a high market cap rate is better, when selling, a low market cap rate is better

The cap rate is great for many things. One of the key benefits is that it removes the cost of capital from the equation by not including debt service. Every investor or individual will have a differing credit scores, income, investment experience and access to money. Thus each person or entity will have varying rates of interest when they borrow money to purchase real estate. By removing the costs of borrowing money from the equation, the investor can focus on the subject property to evaluate it’s performance which will help select one building over the next. I tend to evaluate cap rate first, then compare it to the market for other similar buildings. If it’s as good or better, then I move to the cash flow to make sure it meets my cash generating criteria. Cap rate combined with cash flow is great for buy and hold analysis.

Cash on Cash Return

• Yearly Cash Flow / Initial Cash Invested = Cash on Cash Return
• Initial Cash Investment = Down Payment + Closing Costs + Any Initial Capital Improvements
• Cash on cash return will vary widely depending on how much money you put down
• The lower the down payment, the higher the cash on cash returns will be

The cash on cash return is a measure that some investors value more than the cap rate. For flipping properties, this is more relevant because it shows how much you’re returning on your money in comparison to other properties. The profit may be $100,000 for flipping two different properties, but the cash on cash return will be different and will help show which is a more efficient use of money by seeing which has the higher cash on cash return.

After Repair Value

• Value of Property after repairs are made = After Repair Value (ARV)
• Often used to determine the viability of a flip
• Flip Profit = ARV – (Purchase Price + Closing Costs + Repairs + Holding Costs)

The best way to determine ARV is to look at recently sold gut-rehabbed properties to see the repaired condition, market time and price. If the property you intend to flip is similar in size, beds, baths, layout, location etc. then you can use those recent sales to show what you may be able to sell the subject property for after repairs. Once you have an idea of ARV, you can work backwards and find out how much profit is in the deal by seeing what purchase price would be plus holding, closing and repair costs.

To invest without knowing the numbers is quite a slippery slope. Do your homework and use these calculations to make your life easier and to make better investments! And of course, if you want to hit the easy button, contact me.

Learn more at my website, www.chicagoREinvestment.com.