Making real estate investments is not a decision to be taken too lightly. Yet, we often hear about many get rich quick schemes. However, the advice you should actually follow is coming from expert real estate investors advising you to analyze cash flow and return on investment prior to buying an investment property. Therefore, a real estate investor is expected to make an intelligent decision that yields revenue for the long-run. A real estate investment analysis can help investors do just that!

Real estate investment analysis: Definition

A real estate investment analysis is a method for you to get investing done without resorting to speculation and guessing. Most successful real estate investors base their investment decisions on a proper real estate analysis. Keep in mind that it all comes down to the financials of the real estate property and how well it does as a rental property.

Read this blog post to learn of the benefits of a real estate investment analysis: The Importance of Real Estate Investment Analysis Before Buying a Rental Property.

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Components of a real estate investment analysis

We’ve taken different types of analysis into consideration to give you an encompassing image of what a real estate investment analysis component can be like when using an investment property calculator to conduct one. To go more in depth, let’s take Mashvisor’s real estate investment analysis and break it down for all you beginner real estate investors out there! The list below has everything that makes up a real estate investment analysis:

Gross Potential Income (GPI)

Knowing the potential rental income that any investment property can produce is a must when investing in real estate. So, make sure to take the time to calculate it. Of course, with Mashvisor’s investment property analysis, the AI will calculate it for you! Let’s give a simple example of how you can calculate it manually. If you have a multi-unit investment property with three different units at the same price point of $500 per month, then you can calculate the GPI as simply as this:

3 units * $500/month = $1,500

$1,500 * 12 = $18,000

The Gross Potential Income of this potential investment property is $18,000.

The GPI is the first element you need in order to know the cash flow of that specific investment property. Combining it with the Gross Operating Income can give you a well-rounded idea of how lucrative of an investment it can be.

Gross Operating Income (GOI)

After calculating the Gross Potential Income of an investment property, we move on to the Gross Operating Income. Here, we will be subtracting costs and losses from the potential rental income. Let’s continue with the first example of the three-unit investment property:

Assume that the vacancy rate sits at an average of 5% in your area. Of course, with Mashvisor’s real estate investment analysis, this is all factored in automatically.

5% * $18,000 = $900

$18,000 – $900 = $17,100 which is your Gross Operating Income.

Gross Rent Multiplier (GRM)

Whether you’re a real estate investor or a real estate agent, you will eventually have to calculate the Gross Rent Multiplier. Let’s try to figure out the Gross Rent Multiplier with some simple math:

If a property’s selling price is at $350,000 while the annual rental income is $18,000, then

$350,000/$18,000 = 19.4 which is the GRM for the property.

Now, the Gross Rent Multiplier can be used to calculate the estimated property price through this method:

19.4 (GRM) * $18,000 = $349,200

Accordingly, if a property is listed at $350,000, the real estate investment analysis indicates that the property’s value is appropriate and financially lucrative. However, if you get a much lower number than the property’s list price, then you most likely shouldn’t go for it as it can end up being a negative cash flow income property thanks to being overpriced.

To get more deeply into the Gross Rent Multiplier, read this blog post: Real Estate Investing Vocabulary: Gross Rent Multiplier.

Cash Flow Before Taxes (CFBT) & Cash Flow After Taxes (CFAT)

Cash Flow Before Taxes involves calculating the gross rental income and factoring in the expenses that arise when owning an investment property. To build upon the previous example, you have an annual rental income of $18,000 and expenses including maintenance and upkeep for the property. Keep in mind that the previously mentioned 5% vacancy loss expected yearly also needs to be factored in. Let’s also assume that the tenant has damaged a washing machine and a carpet in one of your rental units with a total incoming cash of $2,000, Then:

5% (vacancy percentage) * $18,000 (rental income) = $900 is the vacancy loss

($18,000 + $2,000 incoming) – $900 = $19,100 which is the effective gross income.

Now let’s take the effective gross income and subtract the operating expenses incurred throughout the year. These can range from maintenance to legal fees. Let’s assume they are around $3,000 annually. To come up with the net operating income, do the following:

The Annual Net Operating Income = Effective Gross Income – Annual Operating Expenses

= $19,100 – $3,000

The Annual Net Operating Income = $16,100

The next and final step is determining and deducting the yearly debt service. This includes the financing repayment program you’re under. Let’s say that you pay a monthly payment of $850 in mortgage payments. Then $850 * 12 is the yearly debt service which is $10,200.

Cash Flow Before Tax = Annual Net Operating Income – the Yearly Debt Service

= $16,100 – $10,200

= $5,900

To calculate Cash Flow After Tax, we need to determine the federal, state, and income tax liabilities. Let’s assume it’s $2,500.

Cash Flow After Tax = Cash Flow Before Tax – Tax Liabilities

= $5,900 – $2,500

= $3,400

Capitalization Rate (Cap Rate)

The capitalization rate is a ratio used to determine the viability of the investment property. It helps real state investors come up with an expected return on investment before jumping on the bandwagon. Keep in mind that Mashvisor’s real estate investment analysis can do all that for you with just a few simple clicks. Read this blog post to learn more: How to Calculate Cap Rate Most Effectively: A Simple Guide.

Additionally, Mashvisor is now offering a 14-day free trial when you sign up! Click here to make use of it.

Now to get back to calculating cap rate manually, we will need the net income and the property’s purchase price. As previously calculated, the Net Operating Income sits at $16,100 and the property’s purchase price is $350,000.

The Cap Rate = $16,100 (NOI) / $350,000 (Property’s purchase price)

= $16,100/$350,000

= 4.6%

The cap rate for the property is 4.6% which is a great number to have as a cap rate.

Conclusion

Running a real estate investment analysis can cut through the noise of emotions and speculations and get you straight to the point. Of course, with today’s technology, you don’t have to calculate such figures and ratios manually. You can cut a process that takes months into a few minutes by using an investment property calculator to conduct a through real estate investment analysis.

If you have any more insights on conducting a real estate investment analysis, please share them with us in the comments section below.

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