Real estate is often a great investment, and there are various approaches you can take. For example, many investors purchase rental properties that can help them generate a recurring income.
This can involve a lot of work, and if you do things right, you can effectively maximize your profits. To get the most out of your properties, you need to know what they're worth and how much you should charge for rent. You can determine this through rental valuation and rental analysis.
There are several rental valuation strategies, and in this guide, we'll discuss three of the most effective. Keep reading for more.
1. Sales Comparison
This is a common approach that real estate agents and appraisers take when determining the value of a rental property. It's done by looking at the value of other comparable properties that have recently sold. This is based on factors like size, age, location, number of bedrooms, etc.
Ideally, this comparison is done with properties that have sold within the last 30 days to avoid changes in market trends. This can sometimes change depending on recent market conditions. It usually involves at least three similar properties for a fair comparison.
It's best done with properties that have as many similar characteristics as possible. This approach works in the same way for investment properties as it does for owner-occupied properties.
2. Income Approach
The income approach determines the value of a rental property by looking at the net operating income (NOI) of the property in comparison to the purchase price. The NOI takes into account the operating expenses but not expenses like capital repair costs, depreciation expenses, and mortgage payments.
This is also sometimes called the capitalization rate or cap rate approach, and the cap rate that it provides comes from dividing the first year NOI by the rental property cost. In general, a higher cap rate is a sign of a better investment.
In some cases, however, a property might have a high cap rate because it's underpriced. This may happen if there are issues with it or if it needs a lot of repairs. An investor can increase the cap rate of a property over time by increasing the rental income and managing operating expenses.
3. Cost Approach
If appraisers or real estate agents are struggling to find comparable properties, they may use the cost approach. It's also useful for properties that aren't currently generating income.
It looks at how much it would cost to rebuild the same property from scratch. By comparing this to the purchase price, you can determine if an investment is worthwhile.
In this case, the value of a property is found by taking the overall cost and subtracting the depreciation and land value. It's an effective tool when you're unsure about investing in a certain property.
Professional Rental Valuation
Whether you're trying to decide on an investment or determining a fair rent price to charge, a rental valuation can be very helpful. Get started with one of the approaches above.
Terra Residential Services can provide rental valuation and many other real estate services. We've been helping investors in Houston and the surrounding regions since 1990. Check out our property management page to see more about what we do.
