How To Figure The Investment Quality Of A Property
If you have ever wanted to invest in real estate but did not know how to tell if a property was a "good investment", this article is for you.
Researching The Potential Investment
First, you must do some research on the property. Let's take a potential property and run the numbers. Here's a visual aid.
Looks visually appealing doesn't it. For our purposes we are going to consider a condo on the beach in Gulf Shores. (BTW, we can help you buy a condo on the beach for the purposes of investment or retirement)
It looks great, but is it a good investment. One aspect of investing is current value compared to future value. This is the biggest reason real estate is such a great investment. The problem is we don't know what the future value will be. While you can't know, you can be informed. Research the area you are considering. What do the experts say about the market growth potential?
This topic is beyond the scope of this blog. Instead, we will consider the basic Return On Investment (ROI) formula.
Crunching The Numbers
First, you need to gather some numbers. Here is our list of necessary information for this property. These are actual numbers.
- Selling Price: $324,900
- Potential Gross Income: $40,000
- Annual Taxes: $877
- Monthly Condo Fees: $458
You may have other costs and it is important to know those but these are the usual and the biggest.
You need the Potential Net Income. You begin with the Potential Gross Income. If you are buying an existing property with a rental history you can easily get the income for the past 12 months. If you are purchasing a brand new unit, you will need to do some research to find out what the average annual rental for units similar to the one you are considering.
Potential Net Income (PNI) = Potential Gross Income - All Annual Expenses.
PNI = $40,000 - annual taxes $877 - (12 months * monthly condo fees $458)
PNI = 40,000 - 877 - (12 * 458)
PNI = 33,627
So you have a potential of netting $33,627 per year on this condo. Is that a good return? Let's see.
Return on Investment (ROI) is found using this formula. ROI is expressed as a percent.
ROI = PNI / Selling Price
ROI = 33,627 / 324,900
ROI = 0.1035 = 10.35%
If you purchased this condo you can expect a 10.35% annual return on your investment. You then take this number and compare it to other investment opportunities to see if this is a good investment for you.
Compare To Other Forms Of Investment
Warren Buffet says you can generally expect a 6-7% ROI on the stock market.
For a Money Market account you can get around 1%.
A 2 year Treasury Note will yield you about 0.94%.
Interest rates (ROI) for a 1 year CD are currently around 0.31%.
Let's compare these different investment avenues and consider how much money you would make in a year if you invested $324,900 in each.
Comparison of Investment of $324,900
The Hidden Gem In Real Estate Investment
In addition to your annual ROI, you also have the value of the unit itself. After 10 years you usually can expect the property to increase in value giving you a greater return on your investment.
The Tax Advantage of Real Estate Investment
One more thing. While I won't go into detail and you will need to consult a tax professional, with real estate you can usually deduct depreciation on your taxes and increase your profit.
As with all investments, there is risk involved in real estate and you must consider that when investing.
If you think real estate investment might be right for you, call us (251-660-4586) or email us and let us help you get started investing in real estate.
The Elliott Team: Your Gulf Shores Real Estate Experts!