5. How to calculate numbers
You'll need to run numbers to determine whether the deal is worthwhile. If you plan to flip, you'll need to know the property value of the home and whether you can make a profit by buying and renovating for less than what you could sell for. It's a bit trickier to determine profitability if you plan to hold the property and rent.
Here are some formulas to use:
The 1% rule
The 1% rule is the TLDR (too long; didn't read) version of real estate math. You want to get as close to 1% of the purchase price of the home in rental income as possible. For example, you should get as close to $2,500 a month in rent for a $250,000 home.
Determine your monthly income minus expenses. Some expenses to consider are property taxes, landlord insurance, repairs and maintenance, vacancy rates, HOA dues, property management, and mortgage payments.
Net operating income (NOI)
NOI is determined the same way as cash flow. Determine your monthly income minus expenses, but without including the mortgage payment. This is to determine the profitability of the investment. (You can do this yearly as well.) You'll need to know your yearly NOI to determine another valuable metric: capitalization rate.
Capitalization rate (cap rate)
Cap rate lets you know your return on investment (ROI). You divide your NOI by the property's current value, assuming you paid cash. This is to help you compare whether you'd be better off investing in this deal or investing elsewhere. Let's say the home costs $250,000 and your yearly NOI is $12,000. Your cap rate would be 4.8%. (12,000/250,000 = .048).
6. Learn how to use leverage
Real estate investors often use leverage, getting an investment loan through their bank, mortgage lender, or a hard money lender. Let's say you have $200,000 to invest in a rental property. You can buy a house with that and have no mortgage payment. And let's say you figure you'll have a positive cash flow on this property investment of $1,000 a month or $12,000 a year. That's a 6% return on investment. (12,000/200,000 = .06.)
Using leverage, you could get say, five properties worth $200,000 -- when your mortgage interest rate is low, this becomes more attractive. Let's see how those numbers work. You put down 20%, or $40,000, per property. Your cash flow will be less on each home since you'll have a monthly payment to make. Let's say you get $300 per month, or $3,600 a year in positive cash flow. But that's per house. In total, you're now earning $1,500 a month, or $18,000 a year, and that's a 9% return on investment. (18,000/200,000 = .09.)
But with reward comes some risk. It's riskier to be leveraged. What if you have tenants who won't pay rent and you can't evict them, either from government eviction moratoriums or just normal lengthy eviction proceedings? If you're overleveraged, you might not be able to make your mortgage payment, meaning you could lose the home. Or what if the real estate market tanks and the home depreciates in value? If you have a mortgage, you could be underwater. So weigh the risks with rewards when investing.
The Millionacres bottom line
Investing in real estate can be your road to success. There are many ways to do this: be a house flipper, a landlord, or invest in a real estate investment trust (REIT), which allows you to invest in real estate without buying physical real estate by investing in companies that do. You'd receive dividends that way. Whichever way you decide to invest in real estate, first pick an investment strategy and understand the ins and outs.