How to turn $250 into $50,000
For 99% of people in America, building wealth through real estate involves understanding a few simple concepts and finding the right opportunities to apply them.
One such concept is to how to create value, and the fastest, easiest way for rental property owners to do this is by increasing rent.
Reader: That seems way too obvious and simple, but tell me more.
Me: Okay, I will.
An investor who pays cash for a rental property will often look at a metric called a Capitalization (Cap) Rate. A Cap Rate is the investor’s annual return on investment.
If an investor buys Apple stock, they expect a certain return. If someone has a 401K, they expect their investment to grow.
That’s why it’s called an investment.
To make an investment property purchase worth their time and money, many investors want a 6% or greater Cap Rate
In other words, if an investor spends $100,000 to buy a $100,000 house, he or she wants to put $6,000 profit back in their pocket each year. If they can’t, they would likely consider it a poor investment.
How do you determine a property’s Cap Rate?
Cap Rate = Net Annual Income / Property Value
For example:
Gross Monthly Rental Income: $4,000
Monthly Expenses (taxes, insurance, maintenance, vacancy, etc.): $1,000
Net Annual Income: $3,000 (Income-Expenses) x 12 months = $36,000
Divided by $600,000 Property Value ($36,000 / $600,000)
Cap Rate: 0.06 = 6%
The owner could sell the rental property for $600,000 to a buyer who wants a 6% Cap Rate.
How do we turn $250 into $50,000 with a simple rent increase?
We need a second math formula:
Annual Net Income Increase / Cap Rate = Increased Property Value
Let’s say that when the tenant renewed, the market conditions allowed the rent to be renewed at $4,250 instead of $4,000/mo.
Gross Monthly Rental Income: $4,250 (a $250/mo increase)
Monthly Expenses (taxes, insurance, maintenance, vacancy, etc.): $1,000
Net Annual Income: $3,250 x 12 = $39,000 annual (a $3,000/yr increase)
$3,000 / 6% = +$50,000
The property value is now $650,000 while maintaining a 6% cap rate.
The owner of the home just turned $250/mo increase into $50,000 - and it didn’t cost them anything to do it.
It’s really that simple - you just have to know how the math works.
I have these conversations with potential sellers all the time as they make plans regarding lease renewal timing, market value, and a host of other factors to make sure they aren’t unknowingly leaving money on the table.
If you have a desire to buy or sell in the coming year, let’s chat.
Life has a way of keeping us all moving, and I’d love to be your real estate agent.
Contact me here to set up your free and confidential consultation.
Kevin
