Determining the investment value of your property isn’t the same as valuing a house you plan on living in. Well, then how do you do it? There are a couple of real estate valuation approaches that you can use whenever you calculate the investment value of a property.
Below are some of the advantages and disadvantages that each approach has. You need to familiarize yourself with each of these methods so you can easily relate to the many different buyers as well as sellers, and any situation you may be in. You should always keep in mind that there are no right or wrong methods of valuation.
When you think about investing in real estate, there are three main parts you have to have in mind; income, financing, and expenses. Here are four valuation methods you can use in the marketplace and their pros and cons.
1 . Price per unit
To find the “price per unit,” you have to compare the cost of the property that you then divide by the units. Everything that you have learned about price per square foot you can always be applied to the price per unit. Price per unit does not take into account financing, income, or even expenses. You can use this method to test the wind, even though it is not in depth in determining the valuation method.
2. Cash on cash
This is a ration of the amount of cash flow that you, as an investor, would earn and comparing it with the cash that you invest. The formula for this method works by putting the cash flow before the tax and then dividing it by the cash invested. When you do your research, you will find that out of all the other financial benefits like tax savings, principal reduction, and appreciation you can use to own an investment in real estate, that cash flow is the most crucial. During that time, you will notice that most properties have to produce sufficient cash on cash return in order to make it worthwhile.
3. Capitalization rate
Also called the “cap rate,” this is one of the common phrases you will always hear time and time again in the marketplace. Usually,the cap rate is expressed in the form of a percentage, and its formula works when you divide the net operating outcome by the cost. You may be kicking yourself asking what all this means by now.
You need to know that capitalization rate takes into account both expenses and income. The capitalization rate does not, however, take into account any financial aspects as most of its basis lies with the net operating outcome. The capitalization rate will always assume that you pay cash.
4. Gross multiplier
The cost of the gross multiplier is when you have to divide the cost of the property by the gross operating outcome. This valuation method does not take any income, expenses, or financing into account.
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