If you’re a first-time landlord, it can be daunting to try and value the price of your home. Determining the value of property for investment or rental purposes depends on multiple factors. For instance, you can determine the value of your property by comparable sales, per-square-footage value, cap rate (income stream) or gross rent multiplier.
Cap rate is an abbreviated term for capitalisation rate. It is a rate that “helps in evaluating a real estate investment” by helping to show the potential return rate of the real estate. You can calculate the cap rate by dividing the net operating income with the sales price of the asset.
Rental properties are honestly not that different compared to condos or typical houses. It’s fine to look at your competition and check on the rentals that are on the same level as yours or in your neighbourhood.
Generally, investors want to see how they compare over time to look out for any emerging trends.
Take the property’s price into account, and divide it by the size of the property. This helps you calculate the price per square foot.
Gross Rental Multiplier
According to PropertyMatrix, the gross rental multiplier (also known as GRM) is defined as “a simple measure of investment performance used to compare alternative investments”. To calculate the GRM, you divide the property’s price by the yearly rent. For instance, if you have a property worth RM600,000 with a rental of RM3100 per month, the GRM will be 16.12.
To simplify, here is the formula:
GRM = Property Price / (Rental x 12 months)
You can also calculate the annual rent in reverse to determine the value by simply multiplying the rent by 12.
Cap rates are trickier as expenses are included in the calculation. You have to first calculate your net operating income to find your cap rate. First, add up your property’s annual rent and deduct the vacancy factor and operating expenses. Operating expenses are like property tax and repairs. That will be your Net Operating Income, otherwise known as NOI. After that, you divide the NOI by price.
Step 1: Net Operating Income (NOI) = Annual Rent – Vacancy Factor – Operating Expenses
Step 2: Cap rate = NOI/property price
To choose the best model for yourself 🙂 Everyone is different and it might be that one is more suited for you than the other!