314-783-6842 | mattmidden@gmail.com

3 Numbers You Need To Know Before Buying a Rental Property

Theres many factors that come into play when deciding to buy a rental property. The age of the house, type of wiring, age of roof and systems, condition of windows and structural integrity of the house is all very important things to know. But some of the most important things you need to about buying a rental property has nothing to do with construction. It is equally important to understand the numbers behind what makes particular rental property a strong rental. It can be the prettiest, most up to date house in the neighborhood but if it will not produce positive monthly revenue then it is something you should more than likely move on from. Below are 3 important numbers you need to know before purchasing a rental property.

 

1.Cash Flow! This is the most important number to know. Cash flow is king. If the property does not produce monthly cash flow then there is no sense in buying it. Cash flow is referred to as the monthly profit you will making every month after all expenses are paid. The math on this is simple. You take the monthly rent minus all expenses such as: management company fee, mortgage payment, sewer bill, water & trash bill, insurance, property taxes, landscaping, misc. See example below.

 

+$1,100 – monthly rent

-$495 – monthly mortgage payment (P&I)

-$100 – monthly property taxes

-$75 – monthly insurance

-$30 – monthly water & trash bill

-$88 – monthly management fee (8% of rents)

 

+$312 = monthly cash flow

 

2. Cap Rate. Cap rate is the rate of annual return a property will bring in if you were to pay cash for the property. Similar to calculating cash flow except you do no factor in the monthly payment. To figure out cap rate you take the yearly income (rent x12) and subtract all expenses except mortgage payment such as: management company fee, sewer bill, water & trash bill, insurance, property taxes, landscaping, misc. Once you take the net income and subtract it from expenses, you then divide that number by what your initial purchase price and repairs if you bought it as a fixer upper. We like to shoot for a 10%-15% cap rate depending on the area. Lets take the numbers from above and find the cap rate.

 

+$13,200 – annual income ($1,100 x 12)

-$1,200 – annual property taxes

-$360 – annual water & trash

-$900 – annual insurance

-$1,056 – annual management fee (8% of rents)

$9,984 – total annual income

 

$9,684 (total income – mortgage payment) divide by $75,000 (all in price) = 12.9% Cap Rate

 

3. Return on Investment (ROI). The return on investment the percentage of return you are making on your initial cash investment. We like to put down 20% of our own money on rentals and have the bank finance the remaining 80%. The ROI is why we prefer to invest our money into real estate as opposed to other forms of investing such as stock market, money market, mutual funds ect. In my opinion the returns you can get on rental properties are far superior to what you can get anywhere else. From the numbers above lets look at what the ROI on this particular property.

 

+$13,200 – annual income ($1,100 x 12)

-$5,940 – annual mortgage payments

-$1200 – annual property taxes

-$360 – annual water & trash

-$900 – annual insurance

$1,056 – annual management fee (8% of rents)

$3,744 – total annual income

$75,000 – all in price

$15,000 – down payment (20% of all in price)

 

$3,744 (total annual income) divided by $15,000 (down payment) = 24.9% Return on Investment

 

Where else can you get a 24.9% return on your investment? If you can find a better investment please let us know!

 

Click here to get access to the cash flow calulator

 

For similar blogs please go to www.StLouisHomebuyersLLC.com/blog/