Valuing Real Estate Return on Investment Calculation ROI
- Slides: 6
Valuing Real Estate Return on Investment Calculation (ROI)
Buying a house (Before 2000) • Consumers required to put a 20% down payment • For a $500, 000 home: – $100, 000 down payment & borrow $400, 000 (mortgage) – $400, 000 fixed rate loan paid back over 30 -years • Loan is less than the value of the house – So banks take very little/no risk of default
Methods to Value Real Estate 1) Rent vs. Buy Analysis – Compare monthly cost of renting vs. buying property – Calculate tax advantages 2) ROI Investment Property Valuation – – – Assume you pay “cash” for property Calculate an implied % rate of return (roi) Compare to other investment options: bonds, stocks, etc… $500, 000 Condo for sale
Rent vs. Buy Analysis • Compare total cost of loan including all expenses vs. rent for property • Consider job stability, level of savings, expected time period • Consider transactions costs, tax advantages, etc… (6% real estate fee to sell) Total Expenses per month • • • Mortgage: Prop. Taxes Homeowners Ins. & Maint. Other $1, 200 $500 $200 $300 $100 • Total = $2, 300 per month (260, 000 mtg @4%) • If Condo Rent = $2, 500 • Condo is “too cheap”. Buy it! • Tax deductions make true cost of condo, about $2, 000 per month
Investment Property Valuation Total Expenses (Costs) per month • • • Mortgage: Prop. Taxes Homeowners Ins. & Maint. Mgt. Fee $1, 900 (450 K mtg @3%) $500 $200 $300 $100 • Total = $3, 000 per month • Rent per month= $2, 500 $600, 000 House for sale Valuation of Property: 1) Assume you pay cash (no mortgage!) 2) Subtract mortgage from expenses -$3, 000 – 1, 900 (mtg) = -$1, 100 expenses per month Rent = +$2, 500 income per month ======================= Positive Cash Flow = +1, 400 per month or $16, 800 per year Compare Alternative Investment: Pay $600, 000 10 year Gov’t Bond @3. 0% $16, 800/$600, 000 = +2. 8% Cap or ROI Cash Flow = +$18, 000 per year Corporate Bond @ 5. 0% = +$30, 000 per year Stocks? Bottom Line: This property is too expensive Look for properties with higher ROI!
Return on Investment Worksheet
