ANALYSING A RENTAL INCOME DEAL

Rental properties can be a great way to generate income and build wealth, but few investors know how to evaluate and select properties. Rental properties enable a real estate investor to enjoy not only capital appreciation on their property but also the opportunity of earning income regularly.

Many investors have used this type of assets as a retirement plan that could fund their lifestyle after they stop working actively. Purchasing your first rental property is a major financial decision and shouldn’t be taken lightly. Therefore, it’s important to understand what you’re doing.

Here is a simple calculation that illustrates the potential of rental property:

Cash flow is a simple concept to understand. Your property’s cash flow is the income it brings in minus the expenses associated with owning, managing, and maintaining the property.

In calculating your cash flow, you need to take note of the following indices:

Mortgage payment: We know our mortgage payment (principal + interest). The principal amount of the payment is the monthly equity build, meaning how much has been put in into obtaining the property. Add the cash flow to the monthly equity build. Most lenders require property taxes and insurance payments with the mortgage payment. Be sure to include that in your calculations. If you don’t pay them with the mortgage, account for them separately.

Property management: If you plan to hire a property manager, account for the expense. The industry standard is 10% of the collected rent.

HOA fees (if applicable): If the property is part of a homeowners’ association, budget for this expense as well. Find out what’s included with the

Vacancy rate: Depending on the nature of your property and current market conditions, it’s smart to assume a 5–10% vacancy rate and set aside this portion of the rent to offset the cost. After all, you still have to pay the mortgage and other expenses when your property is vacant.

Other expenses: Account for anything else you’ll pay for on an ongoing basis. Examples could include pest control or lawn maintenance. Don’t count on your tenants doing either of these things on their own.

ILLUSTRATION

The purchase price of 1 bedroom property goes for #10,000,000. You bought 2 units which cost #20,000,000. Taxes at the time of purchase is 0.076% which is #7,600 monthly or #91,200 yearly.

Calculating Cash Flow

You’re seeing a steady rental demand for these units, all of which stay occupied most of the time, but we’ll calculate a 6% vacancy and non-payment risk to anticipate real cash flow just to be prudent. The units are all identical and they each rent for #1,000,000 a per year.

The calculation would break down this way:

Gross rental income= #2,000,000 per year.

Owner’s repair expenses= #100,000 per year.

Vacancy rate= 5% of rents, or #200,000 per year.

You spend about #50,000 each year in miscellaneous and advertising costs, and you manage the property yourself.

These are the basic operational items that go into cash flow calculation. Rent income less vacancy loss fewer (repairs and costs) equals your cash flow:

#2,000,000 (gross rental income) less #200,000 (vacancy factor) less #150,000 (repairs and costs) equals #1,650,000. This works out to #137,500 per month in positive cash flow over 12 months.

Other factors you need to consider include:

The Neighborhood

When choosing a neighbourhood, make sure the location is on point! Understand what the target tenants are looking for. Depending on tenants, schools, crime rate, amenities, public transportation, noise levels, zoning laws are all things to look into.

The Property

Getting an appraisal and inspection is crucial when selecting a property. It’s important to stick the budget that has been set and to know the deal-breakers after inspecting a property.

While all of these criteria should be carefully contemplated, it should also go hand-in-hand with the cash flow and budget. A city centre is a great location but if the investor can’t afford it, the investment will not get the returns hoped for. Analyzing real estate investments takes time and patience but the benefits are securing a good investment and learning about different markets and properties in the meantime.

To know more about Middlechase Property Limited, click on the link below: Middlechase Property Limited or call 08186577504.