Multifamily property value.Please respond.

[kris]

Can any one explain  me why you guys use monthly gross rent divide by00.2 to get purchase price multifamily.I was searching100s property to find one good and everyone was overprice almost in a half .

[propertymanager]

I was searching100s property to find one good and everyone was overprice almost in a half .

That's exactly right.  The vast majority of new landlords pay retail for their property and then go out of business in a short period of time due to lack of cash flow.  Search "operating expenses" on this forum and you should begin to understand.

You are also correct that there are hundreds of properties that are not good deals for every property that is a good deal.  You didn't really think this was easy  ---  did you?

Good Luck,

Mike
 

[COMREINVESTOR]

I don't think I'll ever find a multifamily for $50K where the monthly gross rent is $10K ($10K divided by 0.2)!!

[Equity]

Typo.  Kris meant 2% (.02).  In your case Comreinvestor, this would be $50000 x .02 = $1000 per month

I suggest that this is a regional number.  Use 2% in California or New York City and let me know how many properties you buy.  In the mid-west, which did not enjoy the meteoric appreciation as other parts of the country (the rust belt in particular), rents are relatively high and home prices are still relatively low.  Thus, the method works well there.  I have a feeling that those who advocate this method to screen deals are generally located in these regions.  The approach is not without flaws though.

One problem with this method is that you’ll tend to miss properties with below market rent and gravitate toward relatively high rent deals.  Using the example from above, let’s say market rent is $1000 per month.  At $1000/.02, you’d be happy to pay $50000 for the property.  If you found the same property rented for $500 per month, you might say it’s only worth $25K ($500/.02) and pass on it.   You’ll argue that since you know your area well, you know the rent should be $1000/mo.  If that the case, you probably have an idea of the value of the home anyway and don’t need this criteria. 

Unknowledgeable out-of-state SFR investors should be especially wary of this method and commercial investors should ignore it.  Commercial is valued on income so you want to find the low rent deals in the area – not rents limited by a 2% of asking price screen.

I’ll add that those I know who use this approach to screen SFR deals, use 0.8% to 1% and they do very well.  It’s not a hard and fast number.

[kris]

Thank you for respond.Yes.I meant 0.02 not0.2 sorry my mistake.If I understand This formula dos not work in every part of country.I live in Chicago area and I am looking for property with positive cash flow but the price are very high for exemple
    6units-price$614000
    monthly income $4825
If I use 0.02 formula I can not pay more than$241.250.That is not real.Last year similar properties sold  for $599.000-610.000.How they can be good investment? Iam new in real estate investing all I know is  from books and tapes.I want to buy multifamily property and I am looking for every good advice.

[Iron Range]

This formula dos not work in every part of country.I live in Chicago area and I am looking for property with positive cash flow but the price are very high for exemple
    6units-price$614000
    monthly income $4825
If I use 0.02 formula I can not pay more than$241.250.That is not real.

 
You should pay $241,250 or less.

I learn something new every day. According to you guys money is different depending on the area you live. Money is the same in the few states I invest in. When your bank accounts go negative, just explain to your bank that money is different in Chicago.

Do NOT invest using .8 - 1% and use the 2% rule where you live or don't invest. 

[kris]

Thank you Iron Range.Can you explain me why you use 0.02 formula.Why we can not use any different number?

[Iron Range]

1 + 1 = 2. This is true for Minnesota or Chicago. I'm not sure why people are telling you differently.

Simple example:
Rent = $1,000 duplex for $50,000

1,000 rent
   500 Expenses using the 50% rule for expenses.
-----------------
   500 Net income (this is your profit - mortgage)
-  350 ($50,000 Mortgage pmt at 7.5%)
-------------------

= 150/2 units = $75 a unit profit (you want $50- $100 profit a month per unit)

[kris]

Thanks again Iron Range.Can I use this formula for large number of units for example 50 or 100units?

[Iron Range]

I do and it has worked out for me. If you go onto websites like loopnet.com you will see a pattern. Around 50% of all the rent goes to expenses other then the mortgage. On top of this formula, I also like to look at the Schedule E.  I've never found a method easier or more accurate then the one listed above.

I use $50-100 a month per unit as a guide for bidding. I use $50 because that is the minimum I will accept. I use $100 as the max because if it cash flows over $100 a month per unit, then I will "typically" pay full asking price. I don't need any more properties so I don't follow that rule much any more. I like to bid lower then the purchase price even if it is already low. Just to see what will happen. Most of the time it's rejected but I usually can get a few thousand off even a great deal. I recommend using the $50-100 a month.

[kris]

Thanks again Iron Range. One more question about example from above.Why you use purchase price 50.000 to calculate mortgage payment without down payment?

[propertymanager]

Kris,

Iron Range is exactly right.  You do need to get about 2% of the acquisition cost (purchase price + rehab cost) per month if you want a property to cash flow.  It is absolutely ridiculous to say that this is different in California than it is in Indiana, Ohio, Michigan, or any other flyover state.  It is true that many people made money with appreciation in the bubble areas, but they aren't making it NOW.  In fact, many of those people who bought investment property in the last year or two in these bubble areas are now suffering; have lost a lot of money; and many have had their property foreclosed upon.

The problem with this idea is that speculating on appreciation is nothing more than gambling.  Sometimes you win and sometimes you lose.  Since I operate a full time rental business, I can NOT afford to lose and I do not gamble.  I only buy properties that I KNOW will cash flow and I only buy properties that will have a minimum of 30% equity at closing.

Why you use purchase price 50.000 to calculate mortgage payment without down payment?

We use the total purchase price to calculate cash flow because there is a cost to the money.  Whether you borrow the entire purchase price or use a down payment, there is a cost to every penny.  So, we consider the cost of the money.  Whether you pay 8% to the bank for the money or lose the ability to earn 8% on the cash you put down, it is still costing you 8%.  Therefore, we consider the entire purchase price in the cash flow equation, as it should be!

Good Luck,

Mike

[voxyn1]

Propertymanager,

Does this formula give you the value of the property or does it give you the price you need to purchase it for to make good cashflow?

Thanks

[propertymanager]

It is a screening tool to tell you the maximum price you can pay for the property and still receive an acceptable cash flow.  Please note, you still need to do a cash flow analysis (using real world expense numbers) and other due diligence.

Good Luck,

Mike

[jbaldwin]

Alright Kris,

Myself and a few others posting here have debated the usage of the 2% number and the GRM versus the cap rate.  Let me put my two cents in concerning a multi family I recently purchased.  3 unit building generates $1,750/mth.  Using the 2% rule you would be willing to pay up to $87,500.  This property was listed for $150,000.  I bought it for $135,000 using cap rates to evaluate the building.  I make just over $600/mth on this building.  Obviously, that's right at $200/unit/mth, which according to previous posts is pretty damn good.  If I would have used the 2% rule and offered no higher that $87,500 I would have been laughed at.  Instead I know the local cap rates and what rates I'm willing to buy at and still make good deals, better than $50-$100/unit these people are talking about.  Learn about Cap Rates, stay away from 2% or you will be searching forever.