Gross Rent Multiplier – Definition and Formula

gross rent multiplierAnyone who has been actively engaged in real estate investing is surely already acquainted with gross rent multiplier because it does provide somewhat of a rental property value estimate commonly required by real estate investors.

On the other hand, novice real estate investors might not understand this estimate of rental property value and the role it plays to investors and analysts engaged in the investment real estate process.

In this article we’ll consider gross rent multiplier (GRM) – including the definition, formula and some pros and cons – so real estate investing beginners can get a decent understanding about what it is and how to implement it.

Gross Rent Multiplier

GRM represents the ratio between a rental property’s price and its gross scheduled income (annual rental income from all units) – therefore telling the investor what the property price is based upon each $1 of its annual gross rental income potential.

In other words, it tells the investor that if the building was fully-occupied – without vacancies – that the price for the property would be equal to the multiplier times that annual amount of rental income.

For example, an income property with a GRM of 6.0 would indicate that the property’s price is six times its gross scheduled income; therefore the property would have to generate an annual income (fully-occupied) for six years in order to equal its price.

Of course, it’s never likely to expect that an income-producing property has zero vacancies. So in this case you would use the current rents for the number of occupied units and an estimate of market rents for the number of vacant units multiplied by twelve months to compute gross scheduled income (GSI).

Formula

Number of Occupied Units x Current Rents x 12
+ Number of Vacant Units x Market Rent x 12
= Gross Scheduled Income

Gross Rent Multiplier = Sale Price / Gross Scheduled Income

Pros & Cons

GRM has the advantage of being a very easy ratio to calculate and therefore can be a rule of thumb measurement that does offer real estate agents and investors a quick method to do a preliminary survey for real estate investing purposes.

On the other hand, gross rent multiplier is not a particularly powerful measurement and is best used as a precursor to a serious income property analysis.

Rule of Thumb

The higher the GRM, the more years it would take for annual rental income to equal price. Therefore this is favorable to sellers because it means the sale price is higher in proportion to the gross scheduled income.

The lower the GRM, the less years it would take for rental rental income to equal price. Therefore this is favorable to buyers because it means that the sale price is lower in proportion to the gross scheduled income.

So You Know

All ProAPOD real estate investment software solutions automatically calculate and include GRM in the appropriate real estate analysis and marketing reports.

How Appraisers Figure Rental Income Property Market Value

market value appraisalThe job of a real estate appraiser is to research local rental markets in part to arrive at an estimate of market value for rental income property. As a result, they are highly qualified when it comes to property valuation and we novices can certainly learn from them to advance our own real estate objectives.

So in this article, we’ll discuss three of the approaches or methods appraisers use to determine rental income property market value hoping you will get the idea how each method works and can apply it to benefit your investment purposes.

1. Income Approach

The income method estimates the anticipated income stream the rental income property is expected to produce and then converts it into a market value amount.

In this case, you would use the rate of return that you or a real estate investor desire from a cash investment and then capitalize that percentage by the net operating income being produced by the property.

Example

Let’s say you desire a 8.5% rate of return on your real estate investment and estimate that the subject rental produces an annual net operating income of $38,500.

To arrive at the rental property’s market value based upon its income stream (NOI) and your desired return on investment you would divide the property’s net operating income by your desired rate of return.

Net Operating Income / Desired Return = Market Value
$38,500 / .085 = $452,940
or,
Income Approach = $452,940

2. Market Data Approach

The market data method compares the subject property to with other similar rental properties that recently sold and then determines a market value based upon data associated with those comparable (comp) properties.

Bear in mind, however, that for this method to work, each comp should be in similar areas, with similar unit sizes, amenities, appearance and rent structures, and should all be buildings that have sold recently.

Let’s use price per unit, for instance. In this case you would divide the price at which each rental sold by the number of rentable units in each building and then compute an average price per unit to use as a multiplier – which in turn is applied to the subject rental income property.

Example

Let’s say you settle on six comparable income-producing properties in the local area that sold for an average cost of $60,000 per unit and want to determine the market value for a 7-unit building.

You would determine your subject property’s market value by multiplying its number of units by the average cost per unit for the comparable properties.

Number of Units x Average Cost Per Unit = Market Value
7 x 60,000 = $420,000
or,
Market Data Method = $420,000

3. Cost Approach

The cost method approach concerns an estimate of what it would cost to replace the rental income property at today’s prices. That is, what it would it cost to buy the land today and build a building identical to the subject property (but after an adjustment for wear and tear).

This method is somewhat more complex than the previous methods because it does involve a series of value computations before you can arrive at a market value for your subject property.

a. Land Value

You must do some research about land value costs for similar income properties in your local market and settle on an average cost per square foot that you can apply to the subject property.

For instance, if a study indicates comparable land is selling for an average cost of $10 per square foot and the subject property is on a 100 x 200 foot lot (or 20,000 square feet) then you would apply the math.

Cost Per Square Foot x Square Footage = Land Value
$10.00 x 20,000 = $200,000

Land Value = $200,000

b. Site Improvements

Here you must determine what it would cost to replace the site improvements of the rental income property such as the parking area, lawn, shrubs, trees, and so on associated with the subject building.

This may involve tallying up the bids you get from local contractors – which, for simplicity sake, we will say totals $30,000.

Site Improvements = $30,000

c. Building Replacement

This concerns what it would cost – using similar type and quality of construction – to duplicate the building’s square footage of the living areas, garages and utility areas (if applicable), and then adjusting for wear and tear (or depreciated value).

All of this, of course, would require research and knowledge of local building costs. For our purposes, we will assume that the subject rental income property has a total 4,200 square feet and building costs are $60.00 per square foot. Moreover, because the building is several years old we will assume that it has depreciated 20% in value.

Building Costs x Square Footage = Building Duplication
Building Duplication x Percent of Depreciation = Depreciated Value
Building Duplication – Depreciate Value = Building Replacement

$60.00 x 4,200 = $252,000
$252,000 x .20 = $50,400
$252,000 – 50,400 = $201,600

Building Replacement = $201,600

Calculation

Land Cost
+ Site Improvements
+ Building Replacement
= Market Value

$200,000
+ 30,000
+ 201,600
= $431,600
or,
Cost Method = $431,600

Arriving at Market Value

Okay, having completed the three valuation methods for our subject rental income property we also arrived at three estimated market values.

Income Approach: $452,940
Market Data Approach: $420,000
Cost Approach: $431,600

For our final estimation we must correlate all three of the appraisal methods and simply make a judgment on which we want to put a slightly heavier emphasis. By leaning more on the income approach, for instance, we could arrive at a value of $440,000. Putting the emphasis on one of the other methods could result in a different estimate of our rental income property value. You get the idea.

 

How REALTOR®Magazine Choose ProAPOD Software As Their Cool Tool

For those of you not familiar with REALTOR®Magazine, it has long been regarded as “the official magazine of the National Association of Realtors® and the business tool for real estate professionals.”

The magazine’s purpose, in their own words,

“The magazine advances real estate best practices, brings expert insight to significant trends, and provides REALTORS® with timely decision-making tools on business purchases and strategies.”

Well, in 2003 REALTOR®Magazine regarded ProAPOD Real Estate Investment Software as a timely decision-making tool for real estate professionals and announced it under their “Cool Tools” – May 2003 issue, page 52.

Understand that ProAPOD did not pay for this endorsement.

ProAPOD was solicited by REALTOR®Magazine, and following several conversations with the editors, it was the editors who made the decision to include ProAPOD as a “Cool Tools” feature – no financial or other strings attached.

So You Know

ProAPOD Real Estate Investment Software was released in 2000 and currently provides three solutions being used by real estate investors and brokers nationwide for rental property cash flow analysis and marketing presentations.

 

iCalculator Annual Inflation Rate Calculation Updated

ProAPOD iCalculator has updated its annual inflation rate calculator to reflect the latest US government CPI data released on October 16, 2012.

This means that you can calculate the annual inflation rate from as far back as 1913 through October 16, 2012. The previous table reflected CPI data through September 16, 2012.

To access the Inflation Rate calculator and make a calculation simply do the following:

  • Login to iCalculator from the ProAPOD website
  • From the calculator’s top menu click Time Value
  • In the left menu click Inflation Rate
  • In the form enter a Start year, Dollar amount spent, and Ending year
  • Click Calculate
Illustration

annual-inflation-rate

Result
annual-inflation-rate

Source: iCalculator by ProAPOD Real Estate Investment Software

This update – as well as are all updates to this real estate calculator – is totally FREE. If you are a current user of iCalculator, simply login and start using it to figure your own inflation rates.

So You Know

In addition to inflation rate, iCalculator provides a host of real estate calculations along with displaying the definitions and formulas for dozens of real estate investing returns. To learn more about this unique online solution go to online real estate calculator.

 

How To Make Rental Property Value Estimates On The Run

rental property valueArriving at rental property value estimates is important business for real estate investors and all others engaged in real estate investing. Because settling on the right value of rental property – whether as a seller or buyer – can be the difference between real estate investment profit and loss.

This is why rental property value estimates are regularly the result of extensive research and exhaustive real estate analysis that enable one to really dig into the property’s financial performance. Fair enough.

Nevertheless, it’s not always practical to do extensive number-crunching and sometimes all that is called for is a quick way to roughly estimate what a rental property price should be as a first-glance analysis based upon minimal data.

So in this article we’re going to look at four calculations you can quickly compute with little more than a pad and pencil when you want to quickly make rental property value estimates just to get an idea.

As you will see, all four methods require some knowledge about recent rental property activity in your local market. But that’s not too difficult to obtain – especially if you’re friendly with an appraiser or someone actively engaged with real estate investing.

It should also be pointed out that each of the four methods include two formulas. One that shows you how to calculate the measurement itself, and one that shows you how to use the measurement to calculate property value.

1. Price Per Unit

Price per unit concerns the number of rentable units the income property provides. It is a good way to make rental property value estimates because it’s informative yet easy to compute.

Price Per Unit = Asking Price / Number of Units
Property Value = Number of Units x Price Per Unit

2. Price Per Square Foot

Price per square foot concerns the building’s square footage. In this case, it can be either reflect the footage for the gross building area or the physical space that the tenant occupies (i.e., the units). Our formulas concern gross building area but it works the same when it applies to units.

Price Per Square Foot = Property Value / Square Footage of Improvements
Property Value = Square Footage of Improvements x Price Per Square Foot

3. Gross Rent Multiplier

Gross rent multiplier (or GRM) has long been used by real estate investors as a fast and easy way to make rental property value estimates. This method concerns the property’s financial performance (i.e., gross scheduled income).

Gross Rent Multiplier = Property Value / Gross Scheduled Income
Property Value = Gross Scheduled Income x Gross Rent Multiplier

4. Cap Rate

Cap rate (or capitalization rate) is the most popular (and perhaps the best) way to make rental property value estimates, but it does require financial data about a rental property that might be more difficult to ascertain than the data required for the previous methods because you would have to know a rental property’s net operating income to make the calculation – and that information may or may not be readily available.

Cap Rate = Net Operating Income / Property Value
Property Value = Net Operating Income / Cap Rate

Bottom Line

All four methods provide a good way for you to quickly and easily make rental property value estimates. Of course you want to be sure to use credible data. So make a point of doing some research in your area and make some connections with appraisers or other real estate professionals that you can rely upon to provide you with credible data.

At the end of the day, though, your time and effort will reward your real estate investing objectives. So it would be smart for you to start doing some homework.

So You Know

ProAPOD Real Estate Investing Software solutions automatically make the calculations for all four methods and does post the results in the appropriate reports.

About Rental Property Depreciation Allowance and Recapture

depreciation allowance

A depreciation allowance is one of the true tax shelter benefits real estate investors enjoy by owning rental income property because this tax deduction write off can produce positive cash flows and better rates of return.

Of course, there are some not-so-welcomed side effects associate with this real estate investing advantage like depreciation recapture.

So in this article we look at the good, bad and ugly side of depreciation.

Depreciation Allowance

Depreciation allowance is an integral part of real estate investing whereby the IRS tax code assumes that rental property buildings (not the land) are wearing out over time and therefore becoming less valuable.

As a result, the IRS permits income property owners to take a tax deduction for that presumed decline in the form of a depreciation allowance – thus enabling the real estate investor to shelter rental income normally subject to “ordinary income” tax rates.

The amount of allowable depreciation (or cost recovery) that can be written off is determined by what the tax code prescribes to be the rental property’s “useful life”. Namely, the IRS assumes a useful life of 27.5 years for residential property (occupied by tenants as a dwelling) and 39 years for non-residential (commercial) property.

Example

Let’s assume that you purchase a duplex for $500,000 of which $400,000 is attributable to the buildings (the remaining portion is land value). The IRS assumes a useful life of 27.5 years for residential property so you are able to take an annual depreciation allowance deduction of about $14,545.

depreciation allowance


Source: iCalculator by ProAPOD Real Estate Investment Software

Note: In this case we are referring to the deduction allowed during a full year of ownership. The deduction is slightly less ($13,940) in the first year and selling year due to what the IRS terms the “mid-month convention”.

Benefit

The boon for real estate investors, of course, is that the depreciation deduction is a non-cash deduction — it is not an operating expense.

Therefore rental property owners can take it without having to write a check as they would other costs associated with running the property. Moreover, if the depreciation allowance deduction is large enough to exceed the property’s income, investors can use it to offset other investment income and reduce other tax liabilities as well.

Okay, that’s the good news; now on the flip side.

Depreciation Recapture

Depreciation recapture (sometimes referred to as cost recovery recaptured) is a tax the IRS imposes on the real estate investor when he or she later sells the investment property at a gain.

The IRS assumes that because depreciation was taken during the holding period – thus reducing the investor’s tax basis and effectively increasing tax gain – therefore any gain from a sale may have in part resulted from depreciation allowance and is subject to the cost recovery recaptured (or the recapture tax).

The Taxpayer Relief Act of 1997 currently sets the recapture tax at 25%. Of course, this is subject to change, so always consult your tax adviser when selling real estate investment property.

Example

Say you sell your rental property after taking $609,860 for tax depreciation and show a capital gain of $1,349,560. Since your capital gain is greater than your accumulated tax depreciation the recapture rule would apply and you will owe the IRS $152,465.

recapture-tax


Source: ProAPOD Real Estate Investment Software

Suggestion

It’s a good idea to always account for the recapture tax when considering potential real estate investment opportunities. Otherwise, you might be unpleasantly surprised to discover that you owe the IRS more taxes than planned when you subsequently sell your rental property – and that’s not something anyone would want to be surprised with at tax time.

So You Know

ProAPOD Real Estate Investment Software provides solutions that automatically calculate for full year and mid-month depreciation along with recapture tax and then posts the results in their appropriate real estate analysis reports.

iCalculator is an online real estate calculator that enables you to calculate full year and mid-month depreciation – and by virtue of reading this article you save 64% (pay just $24.95). Click here >> learn more about this solution and get the discount.