There are four (4) ways you can create value for your real estate investment:
1. Raising Occupancy
2. Raising Rental Rates
3. Reduce Operating Expenses
4. Make Building Improvements
Part 2 of creating value in your real estate investment is raising rental rates. On the surface it seems simple enough and an obvious way to increase value. Let’s look a 2 aspects of this topic; A) How increasing the rents increases the value and B) Ensuring/verifying the rental rate increase is justified.
In reference to how increasing the rents increases the value, I will use 2 examples, one a 4-plex and one a 96-unit complex; In the case of a 4-plex with the monthly rents for each unit at $500/month, just by increasing the rents 10% ($50/month for each unit), this will increase the property value from $136,200 to $157,800 (based on a 10% capitalization rate), which represents a 15.86 % increase in value.
For the 96-unit complex, the results are much more dramatic as you might imagine. In this case the average monthly rents are $546/month and by increasing the rents 10% again ($54 up to $600/month), the property value is increased from $1,906,260 to $2,409,300 (again using the 10% cap rate), a value increase of $503,040, which represents a 26.39% increase in value.
To me those are impressive numbers on paper, but before we get carried away with giddy excitement it’s important to realize the numbers can work against the investor as well. As you might imagine, if rental rates decrease by the same amount (in these examples 10%), you will have a corresponding reduction in value, which is very sobering and obviously something the astute real estate investor needs to avoid.
This leads us to the second topic of ensuring/verifying the projected rental rates being justified/accurate on the sales offering. This applies not so much to current property owners but to investors looking a purchase a potential investment. It is absolutely critical that the investor verifies they can achieve the projected rental numbers from the Seller/Listing Agent’s sales offering. This ‘due diligence’ is critical because if the numbers presented by the Seller are inaccurate, the investment is doomed from the start. The Seller may have ‘pie in the sky’ numbers, which are unrealistic and/or unachievable. You can verify the rental projections by driving the neighborhood and simply doing a market survey of other apartments in the same neighborhood as the subject property. When doing the market survey you need to compare ‘apples to apples’, and make positive/negative adjustments for factors such as age of the property, curb appeal, location, property amenities, deferred maintenance, etc.
In summary, you 1st create value in your mind, then transfer it to paper, but the step of verifying the accurate rents is critical to ensure your investment projections are successful. In our next discussion we’ll cover the 3rd way to create value in your investment; reducing operating expenses………………………
