I have discovered that the cap rate is useful when determining the value of a property. Cap rates differ with each area and type of property, but on average you want the cap rate to be between 10-12% for a good investment.
The cap rate is basically the ratio of the net operating income to the price of the property, expressed as a percentage.
CAP RATE= NOI/PRICE
Sounds simple enough, right? I believe it is. So basically the price that I would want to pay for a property should be no more than 10 times what I calculate for the net operating income.
In case you do not know, the Net Operating Income is calculated before any debt services or taxes are considered. It only takes into considerations the cost of operating the property.
Here is how it is calculated:
Goss Income from rents
- any vacancies (assumed at 3-5%)
- taxes
- insurance
- utilities
- property management
- repairs and maintenance
- supplies
= Net Operating Income
So, I am going to start considering this for every property that I investigate.
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