Real estate is one of the most profitable investments as it is well known to many successful investors around the globe because the demand for those who need shelters will remain high. The income that comes from these investments are always in demand that the number of investors looking into the industry are in line for all the properties that they can invest. The question that most investors end up asking themselves is the ability to evaluate the property whether it is for sale or rent. Here is the guideline on how you can value your property and be able to compete in the market.
SALES COMPARISON APPROACH (SCA)
The sales comparison approach is one of the most common methods you can use when you are looking to pursue the value of your real estate. It entails a comparison of similar property (households for sale or rent) that have previously been sold in a given period of time.
As an investor, you would like pursue an SCA over a considerable span of time to ascertain the emerging market trends. You should realize that the SCA relies on attributes to fix a value that is relative to property falling in the same category under your own category as well. The value of the property is calculated based on square foot per foot is a simple metric that you as an investor ought to understand better and use it later to arrive at an estimated value of the property.
For example, If a 4000 square-foot penthouse is going for the average of 2 dollars per square foot, you should be looking forward to receiving an income within the range that is provided to similar properties within the same area that are also valued in the same manner.
You should also put into consideration that SCA is generic which means that each home for sale or rent that has some kind of element of uniqueness that cannot always be quantifiable. Once you realize that both buyers and sellers have varied preferences and desires they are looking to pursue and obtain. It will be understood that SCA is just a baseline or an opinion that you should not assume to be the most perfect way to predict or be able to value your property.
When you are looking to reach out for certified appraisers or real estate agents that can be an alternative option if you want to request for a comparative market analysis. This is actually an important step to take in order to reduce fraudulent appraisal risks that was actually known to be a common issue in the real estate crisis that occurred in 2007.
CAPITAL ASSET PRICING MODEL
Capital Asset Pricing Model (CAPM) is a method that you can use to value your property in a comprehensible way. This method introduces risk and opportunity cost concepts in relation to the real estate itself.
With this method, you will be required to look at the possible return on investment (ROI) which can derive from the rental earnings and can be compared to other investments that would be considered less risky compared to other real estate investments that can be made. The example made below is based on the formula that is used to calculate the return of your asset with the possible risk that can occur:
The main concept with this method is in the case that the investor would need two kinds of compensation. The two kinds of compensation that the investor considers under this method would be the value of time and money as well as the risk that can be taken. The formula above shows the rate of the risk as a representative of the time value of money. Therefore, CAPM can compensate the potential property owner for any form of investment over a specific period of time.
The summary of this method is that the expected return on the risk-free investment is more than the return on investment that can be made from rental income. There should be no financial sense that can be made to embark on taking the risk of your rental property. For example, if the property for sale is never similar but the location and time of the property has been on the market are also tremendously important factors to put into consideration. The two factors will determine the cost of maintenance and safety of the buyer or tenants respectively. For that specific reason, CAPM enables the investor to determine the returns of their investment when you are considering putting your money at risk.
The income approach targets potential income from rented premises in relation to your investment. If you are looking forward to investing in commercial real estate, the income approach can be the best method for you. The income approach depends solely on yearly capitalization rate for your investment. The rate in question is a projection of the annual income (gross rent) multiplier which is then divided by the prevailing value of your property.
For instance, if your rental property costs about $100,000 to purchase and your anticipated monthly rental income would be $1000, you can work out your annual capitalization rate with this equation as follows:
12,000 ($1000 x 12 months) ÷ $100,000=0.12 or 12 percent
The equation above is simply based on the assumption that there is no interest expenses imposed on the mortgage. In addition, the future income from the rent may seem less or more compared to the current income gained from rent.
The cost approach can be used to determine the value of the real estate in connection to the purpose of the property that it was intended. The value of the estimated property is combined by the land value and the depreciation value that can be based on any improvements that have been made. In this case, the appraisers use the principle of “Highest and the best” to make such a summary of the cost approach regarding your real estate property. The method is actually applied more often to find the value of a vacant land. This cost approach method can be implied when you are planning to purchase a barren land to develop such real estate properties such as apartments, where the real value of that can be determined by how you are going to use that land for the specific project.
For example, if you are looking to purchase a land that would be near an oil field, the best way to utilize the land is actually by not constructing apartments but actually using the land to expand drilling rights with the aim of discovering more oil in the process. On the other hand, property zoning could be another factor that you can choose from regarding finding the value of your property. If the property is not zoned for residential purposes then it is likely that the value would go down due to the expenses of the developer that will incur and zone it. This is the kind of property that is recommended for newer projects rather than the older properties.
When you have first-hand information about all these methods, you would have a better idea what is suitable as the owner of the property can be comfortable and have the ability to bargain on any of the methods that have been discussed above. With all this information provided, you can consider yourself a step ahead towards the right direction into venturing within the real estate business without having any further concerns.
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