Income producing property question 4 posts by 3 users

Posted: 03/04/2008 at 04:14PM

I have a question regarding the Cap Rate formula that someone told me about today. From the information that I gathered on multi units, you take the yearly income on your investment minus the yearly expenses, then multiply that number by 10, which gives you your estimated value of your house. I know the Cap Rate formula is a little more complex, but I heard this was a simplified version of it.

I'm about 15 days away from investing in my first rental unit in Grand Rapids MI and starting to have second doubts about this place. I bought this house thru an auction and was given 30 days to close. From a cash flow stand point, this house will get me the 2%, but I was wondering if anyone takes into account this Cap Rate formula if they intend to sell the house eventually?

Can anyone analyze this deal for me and tell me if this is a good buy or not?

Purchase price=23,000
5% down= 1,150
auction fee=3,000
rehab=40,000
total investment=67,150
rent price=~680(based off 2% rule, this is a 2-unit)

No problem getting the 2% for a monthly payment in the area, house should cash flow, but the only thing that is boggling my mind is the Cap Rate formula. So based on this formula you get;

680 x 2units=1360
1360 x 12months=16320
16320 x 50%(approx. expenses)=8160(NOI)
8160 x 10=81600

Does this make sense to anyone if this is the way rentals work? If for whatever reason I want to sell, I'll probably have to pay 6% for closing, so take off 5k off the 81600, which won't leave me no where near the 20% minimum I must have to do a deal (20% is my rock bottom I need on a flip to pay for my time).

Maybe I'm making things more complex than what they are, but if someone could break this down for me I would appreciate this immensly on making my decision on continuing with the purchase.

Thanks!

Nick

P.S. sorry for any errors I've made through out this post, please ask me if you need any clarification on anything I've wrote.

Posted: 03/04/2008 at 06:16PM

Forget the cap rate, especially for duplexes. What you need to consider is cash flow and equity. Duplexes are normally valued on comps, not cap rate.

Good Luck,

Mike