How to calculate the return of a real estate investment

Real Estate owners can expect a good return on investment if they plan to let out their property on rent. There can be multiple scenarios which a real estate owner can look at when calculating returns from a realestate project. Some of these are:

·         Buying property and renting it for sometime before reselling

·         Buying property units and renting some units and reselling some units after a certain time

·         Buying a property and reselling it after certain time

·         Buying a property and renting it perpetually

I am going to discuss here cash-on-cash return which is a very important parameter to determine the returns on a real estate investment. The key parameters that you consider while calculating the cash-on-cash return are-

·         Purchase price of the property

·         Down Payment

·         Closing Price

·         Interest rate

·         Tenure of Loan

·         Property taxes per year

·         Insurance per year

·         Month Gross Rental Income

·         Vacancy Rate

·         Maintenance Cost

·         Monthly Utilities/Other

While doing the cash-on-cash return calculation of the property the following itemized items need to be calculated:

·         Gross rental Income

·         Net Rental Income (deduct the vacancy)

·         All the monthly costs

·         Check the final monthly cash flow (Income –Costs)

·         Calculate The principal and Interest (Use the PMT formula in Excel as below)

o   =PMT(Interest Rate/Number of payments per year, Tenure of the loan/number of payments per year, - (Amount Financed))

·         The monthly cash flow will be Net Operating Income – Principal and Interest Repayments

·         The cash on cash return will be calculated as = (Annual Cash flow / Total Investment)

I have also shared a screen grab of a calculation that we have done to give our readers a better idea of the calculation.

Other parameters that determine the return on a real estate investment are Annualized RoI wherein we look at different parameters given below. These are: -

·         Cap Rate is  (Wacc- growth rate). This has been used in the Terminal Value Calculation

·         Cap Rate is calculated as: Net Operating Income (NoI)/Current Market Value of the Asset

·         Holding period of the asset

·         In case of rentals the cashflow period

·         In a mixed case of rent and sale, the sale proceeds are realized at the end of Year 1 and the rent cash flows need to be shown for an appropriate duration

·         Occupancy rate (Total occupied days/Total days in a Year)

·         Full expenses (Insurance, Utilities, Taxes etc.) per unit has been considered for asset sale calculations for the holding period (Year 1)

The complexity of calculating returns can vary based upon the use of the property, the financing of the project and various other factors. If you are a property owner or developer who wants to get a clear idea of the Return on Investment (Roi), Write to us at info@intelligentq.co.in