If you’re wondering what to look for in an investment property, it may seem like there are too many factors to consider. You may find yourself overwhelmed at the prospect of weighing the variety of elements involved in a property acquisition. However, by breaking down the process into manageable steps, you’ll be better able to make an informed decision about your next property. Below are five of the easiest and most effective ways to evaluate your rental property.
#1: Compare Similar Properties
Finding properties that are similar to yours in size and condition is a classic way to evaluate your property against others in the local market. You can effectively manage your expectations by talking to other landlords and evaluating their investments— for example, if another landlord has made a comparable investment but isn’t having the kind of cash flow you are expecting, chances are your investment will also underperform.
If you would like a more formal method of comparing your prospective investment to those in the same market, you can conduct a sales comparison. A sales comparison is sometimes referred to as the price-per-square-foot approach. As the name suggests, this method involves calculating the price per square foot of similar properties in your area that have been sold within the last month, then comparing that sales value number to your own property’s based on its own square footage. The result will be a measure the overall expected profitability of your investment.
#2: Consider Location
If you’re asking how to evaluate an investment, location is one of the most important aspects of a property for buyers, so you should not take it lightly. The same property can be sold for much more when it is placed in a desirable location than in a location that is not as desirable.
To determine if you are investing in the right area, first consider what you would like your target market to be. What kinds of tenants would you like to attract? If you are looking to house young families, investing in a property that is within walking distance of a college campus is not the best decision. Your main goal should be to do market research and figure out where your desired renter lives, then invest there.
#3: Evaluate the Property’s Condition
Many buyers consider how their property will appreciate over time, and they base their buying preferences off that analysis. The current value of a home generally matters less than what it will be valued at in the future. For this reason, it’s a valuable skill to understand how your property’s current condition informs its value in the future.
Getting a professional property valuation gives you a report on your property’s individual components and how those components maintain the property’s condition and value over time. This expert will consider the larger-scale components of your property like roofing, infrastructure, electricity and plumbing.
You could also get a formal appraisal to evaluate the condition of your investment. An appraisal will tell you the true value of a property, factoring in details like location, demand, and lot size. However, the value of your property may not be reflected in its price, so keep that fact in mind.
#4: Calculate Your Expected NOI
Your NOI, or net operating income, is the overall income that your property will generate after operating expenses are subtracted. If you divide the original price you paid for the property by the NOI, you get the capitalization rate, which will help you figure out how quickly you will make back the investment you put into the property. If you have a high cap rate, you can expect higher returns, revenue and an overall better investment.
#5: Conduct a Risk Analysis
Real estate, like any investment, harbors a certain level of risk. If you have recurring maintenance issues or high vacancy rates, your investment may not be as strong as you had hoped. The best way to mitigate these potential challenges is to plan and prepare for them ahead of time by performing a risk analysis.
To conduct a risk analysis, consider how shifting factors could affect your rental revenue, like changes in property tax rates, employment rates, state laws, or the quality of potential renters and applicants.
Something will certainly go wrong in your investment journey, but if you’re prepared for these incoming challenges, it’s easier to work through them.
Evaluating your rental property can seem vague and daunting, but it’s an essential step to a successful investment. Use the five investment property tips above to help you decide whether investing in a certain property is the right choice for you.