The Big List of Real Estate Formulas

As real estate investors we’re supposed to do all sorts of calculations to make sure we’re getting a good deal. But what happens if you don’t know the real estate formulas in order to do the calculations in the first place?
irr-formula
Never fear as long as I am here.

Here’s my big list of real estate formulas so you too can not only see if you have a good deal but also have fun with math.

Gross Scheduled Income (GSI)
GSI = Total Monthly Rents X # Units X 12 Months

Proforma GSI
This is the max income that a property will produce based on the market rents. This is not a figure that’s ever based in reality.

Gross Operating Income (GOI)
GSI X Occupancy  = GOI

Occupancy
The opposite of vacancy and what we use because our glass is half full, not half empty. If you have 85% occupancy, you’ve got 15% vacancy.

Net Operating Income (NOI)
GOI – Expenses = NOI

Don’t include your debt service aka mortgage payment in the expenses.  NOI is the figure that I pay the MOST attention to when evaluating a property. How much am I gonna make?

Expense Ratio
Expense Ratio = 1 – (NOI / GSI)

This is the percentage of gross scheduled income that goes to expenses.

It’s important if you want to call bull#$*! on a seller when they claim to have a 15% expense ratio.  For deals I see, this is typically around 35-40%.

Cash Flow
Cash Flow = NOI – Debt Service

It’s important to make sure the NOI and debt service numbers are as accurate as possible here. A small change in interest rate or going from a 30 year loan to a 25 year loan will have a big impact on cash flow.

CAP Rate
Capitalization Rate
CAP Rate = NOI / Price

Basically it’s the return on investment you would make if you paid cash for the property. It’s usually expressed as a market CAP rate meaning that all props in a certain market should expect this return.

Beware of high CAP rates (15-20%) and just because it has a decent CAP rate doesn’t mean it will cash flow. Some people put a lot of faith in this ratio but I personally do not.

Gross Rents Multiplier (GRM)
Price / Monthly Rent = GRM

This is a quick way to see if you have a good deal or a crappy one. Under 100 should cash flow. Under 80 and you’ve most likely got a deal.

Return On Investment (ROI)
ROI = Annual Cash Flow/Down Payment

This is the annual return that you get from cash you put into a deal. If you put down a big down payment and after all your hard work you’re only getting a 4% return then you may want to look for another strategy or just stick to the mutual funds and relax.  If you’re doing highly leveraged deals with little cash in then good for you but this number may then be meaningless.

Debt Service Coverage Ratio (aka Debt Coverage Ratio DCR or DSCR)

DSCR = NOI/Annual Debt Service
The ability to pay mortgage from the property income

Most lenders will require a minimum of 1.20. To be safe try for 1.50. At 1.00 you’re just breaking even and at .90 you’re losing money.

Internal Rate of Return (IRR)
Ok, you’re gonna have to travel back to business finance class with me now. This ratio is the net present value of a series of future cash flows. I recommend using a financial calculator for this one.  Simply stated (even though there’s nothing simple about it – see the graphic above) it’s the required rate of return which equates the Initial Cost Outlay with the present value of series of expected cash flows. In other words IRR is the rate at which the difference between ICO and present value of cash inflows in zero.

It’s ROI on steroids, taking into effect the time value of money AND equity accumulation, appreciation, and tax shelter.

One thing to note is that a property can have a decent IRR but still have negative cash flow during the time you own it so beware.

Ok, there you have it. My big, bad list of real estate calculations. Use at your own risk. And remember to always overestimate the expenses and underestimate the income.

10 Comments

  1. Nice reference, thanks so much. Gives me the idea of building a nice set of spreadsheets out of this info so you can input the data and get all the trickled down results.

    Reply
    • Good idea!

      Reply
  2. Perfect timing for this one, Susan! We’re buying our first investment property, and this really confirmed that we had made a very good choice. GRM = 55! ROI = 6.2. Thank you very much!

    Reply
    • Woo hoo! Congrats Michelle.

      Reply
  3. Appreciate for this one, Susan!
    Good thing that you are here and you are sharing this information with us. Wow! i have nothing to say but all positive about this site.

    Reply
  4. Hey Susan

    I’m trying to find properties in advance for franchise type businesses.

    I would like to find the formula that these types of companies look for as far as land cost? I want to find the property first and do an artist rendering of the building on the property. I will be wasting my time if they need properties at 200k and all I find is 500k any ideas?

    Reply
  5. Susan, Great Thought, I was thinking of putting out there, ( asking ) the R.E. Community, to Post there thoughts-formulas for all the calculations needed for Comm. Props. etc., Maybe even more like Step by Step,thought process. It would be nice, for us in the early phases, to have that info to go by, instead of a formula here and there,from everyone who knows Real Estate. Don’t take that wrong, Susan, I, and I’m sure most any of us that are trying to understand ‘Everything Real Estate’ truely do very much appreciate all the ‘Insights’ from the very knowledgable Real Estate People. For that I Personally, want to say, Thank You Very Much, Susan, and Thanks Much, to all of you, that are out there HELPING the masses, You know who You are !!! Again, Thanks Very Very Much, for all you do. Thomas Vogel ( Investor )

    Reply
    • The thought bank is a great idea!

      Reply
  6. My first question is this…….If an “Investor” is looking for “OFF MARKET” (NOT LISTED on the MLS) FSBO Properties to “Purchase” and said that he would like to acquire Single Family Homes, but, that there MUST be at least a 20% “Spread” between the “Asking Price” and what the “Comps” have SOLD for in THAT area within the last six months. What “FORMULA,” if any, would the Investor use to DETERMINE what that AMOUNT will be? Please advise, and provide an EXAMPLE, as well. Thank you in advance.

    Reply
    • He’s just looking to get properties at a minimum 20% discount from market value. So, you’re looking for properties at 80% or less of market value.

      If market is $200,000. Then $200,000 x .80 = $160,000.

      Reply

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