Return Rate Confusion

[Kelsey McCabe]

Hey All,

Would someone please be kind enough to explain how return rates and capital growth work in rental properties, and how modification that are out of character affect them? This isn't for anything specific, I'm just searching for a general understanding of the terms.  

Thank you for your time. 

[Marcus Auerbach]

@Kelsey McCabe

You have four sources of income:

1.) Cash Flow

2.) Equity (de-leverageing your loan, sometimes built into the deal, when you buy low)

3.) Appreciation, both forced (rehab) and natural (market, time)

4.) Tax advantages

Many investors will calculate ROI by deviding their annual cash flow by the down payment.

Play around with the BP Buy & Hold calculators and study the results, that will get you a good understanding of how the four factors work. Does that answer your question?

[Kelsey McCabe]

Hey Marcus

@Marcus Auerbach, thank you for the reply. Playing around with the calculators has helped, thanks for the idea and lending your knowledge. 

[Michael A.]

@Kelsey McCabe Excellent question. Please forgive me if you already know everything in about to say - just jumping into your question without knowing how much property you already own.

I tend to look at cash-on-cash ROI when analyzing a deal the most.

If a property looks like it will return at least between 10-12% when I analyze it I will make an offer.

All you need to do is look at the actual amount of cash the property will leave you with at the end of the year after all of your bills are paid, and divide that by every actual dollar you’ll need in order to invest in something (and I mean everything - closing costs, repairs in order to get it rent ready, down payment, home inspection, etc.).

A fast way to gut check a property is to see if it will rent for 1% of the purchase price (though some people in better markets will look for 2%).

Hope that helps unless I haven’t told you anything you don’t already know!

[Marcus Auerbach]

@Michael A. I am fortunate to live in one of these cities where 2% is possible, but let me tell you, it is not desirable. What you will find is that a lot of new investors get excited over those deals, while more seasoned guys do not. Which brings up the question, why not? 

In short you have to make sure that capex and repairs does not exceed cash flow. That would make it a money pit in the long run. This is very often the case with 2% deals. Second, cashlow keeps the lights on and allows you to grow, but wealth is created through 2, 3 and 4.

My recommendation is to analyze a deal in all four categories and you make an offer when it meets your criteria in all four! 

[Michael A.]

@Marcus Auerbach I appreciate this valuable insight Marcus! You’ve helped me tweak my perspective going forward.

[Kelsey McCabe]

@Marcus Auerbach and @Michael A.

Thank you for all the advise and insights, it been very useful. I look forward to putting your knowledge to use.

Thank you, Kelsey