My real estate agent claims this has 5.9% cap rate - thoughts?
Member since 2019 · 5 posts · 1 vote
My real estate agent claims this has 5.9% cap rate - thoughts?
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Justin R.Pro Member
Rental Property Investor · San Anselmo · Member since 2015 · 659 posts · 600 votesI don't understand why people say "you can't use a cap rate on SFD's." Sure you can, and it works great for comparing apples to apples. We all know that appraisals for 1-4 units are based upon comparables, not cap rate; but this doesn't mean it cannot be used as your personal underwriting tool.
It is simple to get two different cap rates....especially when one is prepared by a listing agent, wholesaler or the like. People encouraging a sale exaggerate the income, and minimize the expenses. This is done by no maintenance/Capex reserve, no vacancy reserve, not factoring in PM fees, etc.
The most important thing is to know how to analyze a property. There are many ways to do it, but make sure you are confident, and competent in the method you choose!!
Best of luck!
26 Replies
- Real Estate Agent · Washington, D.C. · Member since 2012 · 17k+ posts · 30k+ votes7y
Im not sure I follow here. The numbers are what they are. Noi divided by value...its not possible to come up with 2 different numbers.
Further this appears to be a sfh, in which case cap rate has nothing to do with the property.
District Invest Group545 Reviews - Member since 2019 · 2 posts · 0 votes7y
Hi Ian,
That area of Hyde Park is going through a lot of changes but this is still one of the nicer houses in that area.
What rent did they quote for this? Hard to evaluate cap rate with single family homes.
Best,
Greg
- 7yLien VuongBusiness MemberReal Estate Agent · Boston, MA · Member since 2018 · 2k+ posts · 1k+ votes
Ask to see her formula, she cannot just shift the formula on a whim ..
The Elle Group5153 Reviews - 7yJustin R.Pro MemberRental Property Investor · San Anselmo · Member since 2015 · 659 posts · 600 votes
I don't understand why people say "you can't use a cap rate on SFD's." Sure you can, and it works great for comparing apples to apples. We all know that appraisals for 1-4 units are based upon comparables, not cap rate; but this doesn't mean it cannot be used as your personal underwriting tool.
It is simple to get two different cap rates....especially when one is prepared by a listing agent, wholesaler or the like. People encouraging a sale exaggerate the income, and minimize the expenses. This is done by no maintenance/Capex reserve, no vacancy reserve, not factoring in PM fees, etc.
The most important thing is to know how to analyze a property. There are many ways to do it, but make sure you are confident, and competent in the method you choose!!
Best of luck!
- Real Estate Broker · Chicago, IL · Member since 2016 · 54 posts · 51 votes7y
@Ian Goodstein actually Ian, your gut may be right but CAP rate IS able to be manipulated. Yes it's true the formula is the same but, Why? Because a broker/seller will factor in their own version of expenses compared to what YOU believe are the true expenses. HARD costs like water electric gas trash taxes are what they are, the SOFT costs are oftentimes manipulated to favor seller. Buyer beware. Trust your underwriting not the marketing book because they may only factor in "annual operating" expenses and oftentimes don't include misc. costs, reserves, management, maintenance, turnover, leasing... shouldn't include cap-ex but you should take into consideration required improvements that are non-recurring and address up front IMO. What is equally important to look at is: monthly cash flow, cash on cash return with your underwriting, but my favorites are: price per SF, and most important: GRM of similar properties in similar condition with similar rents. This can't be manipulated as much because it only looks at gross rents and compares to price. Message me if you need clarification happy to help you in anyway
- Real Estate Coach · Venice Beach, CA · Member since 2012 · 6k+ posts · 3k+ votes7y
Originally posted by @Justin R.:
I don't understand why people say "you can't use a cap rate on SFD's." Sure you can, and it works great for comparing apples to apples. We all know that appraisals for 1-4 units are based upon comparables, not cap rate; but this doesn't mean it cannot be used as your personal underwriting tool.
It is simple to get two different cap rates....especially when one is prepared by a listing agent, wholesaler or the like. People encouraging a sale exaggerate the income, and minimize the expenses. This is done by no maintenance/Capex reserve, no vacancy reserve, not factoring in PM fees, etc.
The most important thing is to know how to analyze a property. There are many ways to do it, but make sure you are confident, and competent in the method you choose!!
Best of luck!
I totally agree with everything you said!
- Real Estate Coach · Venice Beach, CA · Member since 2012 · 6k+ posts · 3k+ votes7y
Ask her to see what numbers she used in calculating a 5.9% cap rate. That will be the teller. She likely inflated it, either underestimating expenses or not including certain expenses period. Doubt you're going to be looking at a true 5.9% in SoCal.
- Rental Property Investor · San Diego, CA · Member since 2013 · 3k+ posts · 4k+ votes7y
Originally posted by @Ian Goodstein:
Long time listener, first time caller. A real estate agent I have been working with in Los Angeles claims this property has a cap rate of 6%.
https://www.zillow.com/homedetails/6564-5th-Ave-Los-Angeles-CA-90043/20327737_zpid/
When I calculate it, I get a cap rate of 1.5%.
I am new to this and I'm curious what others get as the cap rate? I am trying to complete my first deal in the Los Angeles area, and I'm looking to learn all I can to avoid buying a bad deal. Thanks in advance for any replies.
“My real estate agent said”
That’s like saying “my four year old said”. Both have similar expertise in investing.
Unless your agent is also an real estate investor I wouldn’t believe what they say on the matter
(Sorry to all the agents. I happen to have my lic. But most people that make their money as a residential agents don’t know a thing about investing)
- Rental Property Investor · San Diego, CA · Member since 2013 · 3k+ posts · 4k+ votes7y
Originally posted by @Justin R.:
I don't understand why people say "you can't use a cap rate on SFD's." Sure you can, and it works great for comparing apples to apples. We all know that appraisals for 1-4 units are based upon comparables, not cap rate; but this doesn't mean it cannot be used as your personal underwriting tool.
It is simple to get two different cap rates....especially when one is prepared by a listing agent, wholesaler or the like. People encouraging a sale exaggerate the income, and minimize the expenses. This is done by no maintenance/Capex reserve, no vacancy reserve, not factoring in PM fees, etc.
The most important thing is to know how to analyze a property. There are many ways to do it, but make sure you are confident, and competent in the method you choose!!
Best of luck!
You’re 100% right. I use a cap rate to determine if it’s worgh buying 1-4 family all the time. It might now be how an appraisal is done but it’s how an investor should know if it’s worth buying to meet their income goals.
Likewise people act like CAP is the only factor for commercial. It's not. An appraiser will look at comps and other factors also.
This magic line between 4 units and 5 has more to do with conforming loans, not how you should underwrite an investment.
- Real Estate Agent · Los Angeles, CA · Member since 2017 · 120 posts · 36 votes7y
@Ian Goodstein I'm curious as to what you/your agent are using for expenses on this unit. The listed potential rents, which are a reasonable ask for that area, would at least be higher than your potential mortgage payment (assuming you're going that route), but the listing (in the mls) does not show anything regarding separate utilities between the main house and the ADU. My experience says that you will have to cover those expenses (and obviously increase the rent to reflect that), unless you choose to get them separately metered. Also, just from my experience in that part of LA, you have to be careful between 60th and about 85th, some really not good pockets in there. I'm sure that will change after all of the development is done. Also, how are you and your agent calculating the cap rate? There is the basic way most of us calculate it, but there are other financial models that require a lot more information but would give you a better answer (my husband is in finance and he uses models that I barely understand).
I’m closing a deal on 58th right now and there are a few others in the area that could be good investments for you. Best of luck to you!
- Real Estate Agent · Los Angeles, CA · Member since 2017 · 120 posts · 36 votes7y
@Ian Goodstein I'm curious as to what you/your agent are using for expenses on this unit. The listed potential rents, which are a reasonable ask for that area, would at least be higher than your potential mortgage payment (assuming you're going that route), but the listing (in the mls) does not show anything regarding separate utilities between the main house and the ADU. My experience says that you will have to cover those expenses (and obviously increase the rent to reflect that), unless you choose to get them separately metered. Also, just from my experience in that part of LA, you have to be careful between 60th and about 85th, some really not good pockets in there. I'm sure that will change after all of the development is done. Also, how are you and your agent calculating the cap rate? There is the basic way most of us calculate it, but there are other financial models that require a lot more information but would give you a better answer (my husband is in finance and he uses models that I barely understand).
I’m closing a deal on 58th right now and there are a few others in the area that could be good investments for you. Best of luck to you!
- Rental Property Investor · Sacramento, CA · Member since 2015 · 1k+ posts · 893 votes7y
@Ian Goodstein not too many realtors are qualified to make your investment analysis for you. Some are investors, experienced, and understand the business, but I find these few and far between. Go with your own analysis. People underestimate expenses and overestimate income all the time.
Other posters make a good point, cap rate doesn't affect the valuation of this property. You can still use it to understand how much income it generates though. I'm hard pressed to believe any duplex in Los Angeles is a good idea to purchase as an income property, though.
- Rental Property Investor · St. Petersburg, FL · Member since 2017 · 3k+ posts · 4k+ votes7y
@Justin R. I think the problem with using CAP for residential properties is a flawed understanding of what CAP is....
CAP is a fixed rate, based on similar properties with similar investment risk. It's not something that changes based on what you pay for the property. The CAP of the property is NOI/Value. Since NOI and CAP are known values, the properties current value is set. You can try to buy at a discount and have built in equity, but you're not changing the CAP by buying it at a different price.
With residential, you can change your rate or return (different than CAP) based on your purchase price.
- Rental Property Investor · San Jose, CA · Member since 2013 · 188 posts · 228 votes7y
@Ian Goodstein
Caprate isn’t typically applicable with residential properties. It’s a commercial property thing.
Though note that many sellers will quote you a caprate on their buildings, with their own projections in prospectus. In my experience, these are about as useful as toilet paper & should serve the same purpose. Always understand how to evaluate a property & run the numbers YOURSELF - never trust the sellers numbers.
I had one guy try to explain to me why his cap rate included 13 months of income, & how it was perfectly realistic to expect $0 in maintenance costs!
- Los Angeles, CA · Member since 2018 · 326 posts · 279 votes7y
@Ian Goodstein there is a possibility that this property can achieve a cap rate of 6%, however, it depends on what rent you are using and what rent the agent is using.
Both units will be delivered vacant and both units have been updated which goes a long ways in the Los Angeles market. The projected rent is a little high but there is a possibility that you can get close the the numbers.
Will you be living in one of the units? Since the property is a 3/2 and 1/1 it depends on which unit you live in which will determine the cap rate.
With this particular property and a majority of other 1-4 units in the Los Angeles market I'd use IRR instead of cap rate.
Please let me know if you need assistance here in Los Angeles.
- Developer · San Diego, CA · Member since 2015 · 1k+ posts · 1k+ votes7y
Originally posted by @Jason D.:
@Justin R. I think the problem with using CAP for residential properties is a flawed understanding of what CAP is....
CAP is a fixed rate, based on similar properties with similar investment risk. It's not something that changes based on what you pay for the property. The CAP of the property is NOI/Value. Since NOI and CAP are known values, the properties current value is set. You can try to buy at a discount and have built in equity, but you're not changing the CAP by buying it at a different price.
With residential, you can change your rate or return (different than CAP) based on your purchase price.
(Different Justin R)
You are correct, of course, but in forums like this one people need a term that means, "how much (I think) my unlevered net profit is, divided by the amount I paid for the thing." It's incorrect and confusing to co-op the term "Cap Rate" to mean this, but... What term would you suggest?
As in, "I'm such a kick *** investor because I bought a 14 __??__ two bed house in Indy last month for $14,000 and only put 10% down because I did a double reverse purchase lease sandwhich option using OPM in a class C++ turnkey neighborhood."
It's like "begs the question" - eventually enough people misuse the term that the UrbanDictionay.com definition becomes the Dictionary.com definition. And, only intellectual wonks care about the difference.
- Rental Property Investor · Honolulu, HAWAII (HI) · Member since 2011 · 4k+ posts · 2k+ votes7y
Brokers always lie.
I don't look at caps cause its always manipulated (low expenses).
- Real Estate Broker · Cleveland Dayton Cincinnati Toledo Columbus & Akron, OH · Member since 2013 · 30k+ posts · 20k+ votes7y
Originally posted by @Justin R.:
Originally posted by @Jason D.:
@Justin R. I think the problem with using CAP for residential properties is a flawed understanding of what CAP is....
CAP is a fixed rate, based on similar properties with similar investment risk. It's not something that changes based on what you pay for the property. The CAP of the property is NOI/Value. Since NOI and CAP are known values, the properties current value is set. You can try to buy at a discount and have built in equity, but you're not changing the CAP by buying it at a different price.
With residential, you can change your rate or return (different than CAP) based on your purchase price.
(Different Justin R)
You are correct, of course, but in forums like this one people need a term that means, "how much (I think) my unlevered net profit is, divided by the amount I paid for the thing." It's incorrect and confusing to co-op the term "Cap Rate" to mean this, but... What term would you suggest?
As in, "I'm such a kick *** investor because I bought a 14 __??__ two bed house in Indy last month for $14,000 and only put 10% down because I did a double reverse purchase lease sandwhich option using OPM in a class C++ turnkey neighborhood."
It's like "begs the question" - eventually enough people misuse the term that the UrbanDictionay.com definition becomes the Dictionary.com definition. And, only intellectual wonks care about the difference.
The ole' OPM double sandwich reverse purchase lease option....One of my favorite strategies. Only in C++ class though. If it's C+++ I go with the triple OPM sandwich reverse lease option.
- Developer · San Diego, CA · Member since 2015 · 1k+ posts · 1k+ votes7y
Originally posted by @James Wise:
Originally posted by @Justin R.:
Originally posted by @Jason D.:
@Justin R. I think the problem with using CAP for residential properties is a flawed understanding of what CAP is....
CAP is a fixed rate, based on similar properties with similar investment risk. It's not something that changes based on what you pay for the property. The CAP of the property is NOI/Value. Since NOI and CAP are known values, the properties current value is set. You can try to buy at a discount and have built in equity, but you're not changing the CAP by buying it at a different price.
With residential, you can change your rate or return (different than CAP) based on your purchase price.
(Different Justin R)
You are correct, of course, but in forums like this one people need a term that means, "how much (I think) my unlevered net profit is, divided by the amount I paid for the thing." It's incorrect and confusing to co-op the term "Cap Rate" to mean this, but... What term would you suggest?
As in, "I'm such a kick *** investor because I bought a 14 __??__ two bed house in Indy last month for $14,000 and only put 10% down because I did a double reverse purchase lease sandwhich option using OPM in a class C++ turnkey neighborhood."
It's like "begs the question" - eventually enough people misuse the term that the UrbanDictionay.com definition becomes the Dictionary.com definition. And, only intellectual wonks care about the difference.
The ole' OPM double sandwich reverse purchase lease option....One of my favorite strategies. Only in C++ class though. If it's C+++ I go with the triple OPM sandwich reverse lease option.
Oh, totally - that's when you know you've got a winner. Do you BRRR those OPMTSRPLO properties? At a 14 CAP, it should be easy, but I haven't figured out how to do it yet.
- Real Estate Agent · Jacksonville, FL · Member since 2018 · 33 posts · 9 votes7y
Originally posted by @Cody L.:
“My real estate agent said”
That’s like saying “my four year old said”. Both have similar expertise in investing.
Unless your agent is also an real estate investor I wouldn’t believe what they say on the matter
No offense taken. That's why it's important to find a real estate agent who actually does understand and is willing to show why they got what they did. If the won't show you the formulas and numbers they used and only give you a percentage, they skewed the numbers to get you to buy and aren't looking in your best interest. If a real estate agent is willing to sit down and talk to your about your goals and needs as an investor, and continues to back that up with the deals they are finding for you and shows you their work, that's the one to work with.
- Rental Property Investor · Austin, TX · Member since 2015 · 280 posts · 176 votes7y
@Ian Goodstein Your agent is likely working off of Pro-Forma numbers. Ask to see the numbers. Always ask questions.
- Rental Property Investor · Lucasville, OH · Member since 2018 · 6 posts · 0 votes7y
@Ian Goodstein Is one of the units rented, if so which one, of its the 3bd side average rent for the area is 5187, according to www.rentometer.com
If there are no current tenants, then she is calculating pro forma cap rate which, is an estimation of probably getting it rented.
- Rental Property Investor · Sioux Falls, SD · Member since 2015 · 9k+ posts · 18k+ votes7y
@Ian Goodstein interesting that there is so much discussion about this. I honestly thought this was one of those hard to debate topics.
CAP rate can be applied to any real estate investment. It is more common in commercial or multifamily investments. It is also more accurate in those cases, because usually these higher value properties have a full income/expense statement that includes management.
The problem when CAP is applied to small multifamily or single family is that often key expenses are left out, such as management. I have even seen it where there is no allotment for vacancy or repairs. The agent simply takes the gross rents, subtracts taxes and insurance and divides by the purchase price.
I see this all time on small multifamily on our MLS. The realtor attaches a work sheet and literally only includes taxes and insurance as the only expenses. Then they show a great CAP rate. Half the time, I even go on Zillow and see multiple units were vacant over the preceding few months. MLS numbers are very inaccurate in my experience, either due to agents lack of knowledge or intentionally to make the property look better than it is.
So to answer your question, if you are arriving at two different CAP rates, look at the detail of your numbers versus theirs.
- Real Estate Agent · Nashville, TN · Member since 2015 · 2k+ posts · 2k+ votes7y
Is this house priced in American dollars? Surely not!
- Member since 2019 · 5 posts · 1 vote7y
Thank you for all the replies, I wasn't expecting so many thoughtful responses. I've read through them all and I have decided I need to improve my deal analysis skills before I make a move. Thanks again and what a great community this is.
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