How Much Should You Be Spending on Multifamily Apartments?Nov 14, 2021
What should you be paying for multifamily apartment buildings?
We'll take a look at some of the factors that will help you make this decision!
Income Approach (Capitalization Rate)
This approach takes the income for an investment property - minus expenses and determines what a reasonable price is to pay for it based on the capitalization rate.
Net Income Equals =
Gross Rental Income (the money that tenants pay you every month)
(MINUS) Operating Expenses (repairs, insurance, property taxes, etc.)
The income approach calculates the Net Operating Income and then multiplies it by Capitalization Rate to arrive at an investment value.
The Danger of Using the Capitalization Rate Approach
Be careful when using the income approach because so many factors determine what markets will do over time and how they'll affect your investment value.
What if builders are building a new shopping center in the neighborhood?
What if everyone has started to rent homes because they can't afford to buy them anymore and apartment demand drops dramatically.
Seller's Market Approach
This approach is for people to sell their investment properties and price them based on what similar investments have sold for recently.
The key here is to have many comps in the area.
Of course, it's not that easy, but it's a beautiful start to get an idea of what price is acceptable.
Be Careful When Using The Seller's Market Approach
The seller's market approach is also risky because the real estate market can swing in both directions.
Like we saw with capitalization rates, it would be wrong to assume that apartment values will always increase and only price your property higher than what similar properties sold for.
Although this seems logical, you could end up pricing yourself out of a profitable deal.
This method looks solely at replacement costs or what you'd have to spend if you wanted to build an identical multifamily apartment building on vacant land.
The danger of using the replacement costs approach is that sometimes some unusual features or amenities add to the value of a property, and you're not accounting for them in your calculations.
Using the Replacement Cost Approach is Useful Sometimes
The Replacement Cost Approach can be helpful when trying to determine if an investment property needs renovations or not because you could compare how much it would cost to build a new one vs. fixing up your current building and what ROI each option provides.
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