Despite what many of us math-allergic folk would prefer, real estate does involve some math. Luckily, most of the formulas are simple and straight-forward. In fact, if you can master the calculations below, you should be just fine.
The Top 8 Real Estate Calculations Every Investor Should Memorize
Net Operating Income / Total Price of Property
Total Price (Purchase + Rehab): $300,000
$25,000 / $300,000 = 0.083 or an 8.3 Cap Rate
This calculation is mostly used for valuing apartment complexes and larger commercial buildings. It can be used for houses and small multifamily too, but operating expenses are erratic with houses (because you don’t know how often and how bad your turnovers will be).
You want to have a cap rate that is at least as good, preferably better, than comparable buildings in the area. I almost always want to be at an 8 cap rate or better, although in some areas, that’s not really possible. And always be sure to use real numbers or your own estimates when calculating this. Do not simply use what’s on the seller-provided pro forma (or as I call them, pro-fake-a).
Monthly Rent / Total Price of Property
Monthly Rent: $1,000
Total Price of Property (Purchase + Rehab): $75,000
Rent/Cost = $1,000 / $75,000 = 0.0133 or a 1.33% Rent/Cost
This is a great calculation for houses and sometimes small multifamily apartments. That being said, it should only be used when comparing the rental value of like properties. Do not compare the rent/cost of a property in a war zone to that in a gated community. A roof costs the same, square foot for square foot, in both areas. And vacancy and delinquency will be higher in a bad area, so rent/cost won’t tell you what your actual cash flow will be. The the old 2% rule can lead investors astray, and they shouldn’t use it. But when comparing like properties in similar areas, rent/cost is a very helpful tool.
According to Gary Keller in The Millionaire Real Estate Investor, the national average is 0.7%. For cash flow properties, you definitely want to be above 1%. We usually aim for around 1.5%, depending on the area. And yes, I would recommend having a target rent/cost percentage for any given area.
Annual Rent / Total Price of Property
Annual Rent: $9,000
Total Price (Purchase + Rehab): $100,000
Gross Yield = $9,000 / $100,000 = .09 or a 9% gross yield
This is basically the same calculation as above but flipped around. It’s used…