Selling Real Estate for More -----Understanding Cap Rates

Selling real estate rentals isn't like selling houses. You can paint a house, and get a little more because it looks nice. Rental properties, especially larger ones, are different, because they're bought by investors, who look at income more than new paint. Raise the income, and you increase value to investors.

What is Cap Rate (Capitalization Rate)

Simply put is the a rate of return a real estate investor will accept on their investment.   It is calculated by dividing the net operating income by purchase price.  NOI / Purchase price = Cap Rate

Time to learn about capitalization rates. If Real Estate investors in London Ontario expect a capitalization rate of 8 it means they want a net return (before loan payments and taxes) of 8% on the purchase price. So if your three-plex generates $12,000 net income annually, they'll value it around $150,000 ($12,000 divided by .08). If you can make it generate $16,000, you make it worth $200,000.

Raising rents is the obvious way to boost income, If you are allowed to, in Ontario this is not so easy. For 2014 the allowable increase is only .08%. If a unit is vacant you can set rents to market rent value. See what similar units are renting for. If your units are $60 below the going rate, you can raise the rents for new tenants. Increasing the rent $60 for three apartments means $2160 more net income annually. With a .08 cap rate, you just added $27,000 to the value of your property. There are other ways to raise rents

Higher rent isn't the only way to get more income. Storage sheds can be rented to tenants or you could put in a coin-operated washer and dryer. With a larger income property, you could install pop machines.

Reduce Expenses Of Real Estate Rentals

Could you add insulation to reduce the heating costs? If you're paying $80/month for lawn care, will one of the tenants do it for $40? Could you buy cheaper insurance? Any way you can reduce expenses raises net income (unless it scares away tenants). A new $4,000 furnace that saves $800/year on heating costs means you just turned $4,000 into a $10,000 higher sales price. This isn't an exact science, and of course appearance and other factors matter. Increasing that net, though, is the surest way to get more for your rental properties. Make the changes at least several months before you try to sell the property (a year before, if possible). Also, learn how do the math - it really does matter with real estate rentals.

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David Giovanniello

David Giovanniello

Sales Representative
CENTURY 21 First Canadian Corp., Brokerage*
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