When you're looking to buy investment property, there are two key metrics that you need to carefully analyze. Paying attention to comparable sales prices will help protect you from overpaying for a property relative to the rest of the market. Calculating your returns, though, will help ensure that every deal you buy is worth buying on its own merits, regardless of what other people in the market are doing.
Price Per Square Foot
The price per square foot is an excellent reality-check metric. If you've analyzed a market and know that rehab homes sell in a certain cost per square foot range, you will have a good general sense of which deals to discard. When an investment property gets presented to you at a price that is above the range you identified but it's comparable to the less expensive ones, you can quickly move along.
While the price per square foot is an excellent metric for ruling out properties, it isn't one to use to make a buying decision. Just because a property's price per square foot falls within market norms doesn't mean that it's a good buy. It just means that it isn't impossibly overpriced.
To calculate the total return of an investment property, you'll actually need to have a command of many other market metrics. Here's how to calculate it:
- Calculate your down payment.
- Estimate what your loan will cost you to source.
- Estimate your rehab costs.
- Estimate the carrying costs while you are rehabilitating the property. Carrying costs include property taxes, insurance and mortgage payments.
- Add all of these costs together to find your total cost.
- Project the property's selling price based on market comps for owner-occupied homes and subtract the costs you will incur in getting it sold.
- Subtract your remaining loan balance to find the net proceeds you expect to receive when you sell the investment property.
- Divide your total cost into your net proceeds.
- Subtract 1 from the product of the division to find your total return.
As long as the price per square foot tells you that a given investment property makes general sense, the total return lets you compare between properties to ensure that you take down the best opportunity. While it's a powerful metric, it's also easy to calculate as long as you know your market well.