Evaluation Calcs &Terms
Cap Rate (Capitalization Rate)
Capitalization rate, also known as cap rate, helps in evaluating a real estate investment and is rate of return on a real estate investment property based on the expected income that the property will generate. This rate can be used to estimate the investor's potential return on investment.
Capitalization Rate = Yearly Income/Total Value
LTV (Loan to Value Ratio)
The amount borrowed compared to the cost or value of the property purchased. Lenders often require that a loan-to-value ratio not exceed a specified amount because the higher the LTV, the higher the risk to the lender.
LTV% = Loan Amount/Price (or value) of property
LTC (Loan to Cost Ratio)
Similar to LTV, this ratio is used in commercial real estate construction to compare the amount of the loan used to finance a project to the total cost to build the project. The costs to build are land, construction materials, construction labor, professional fees, permits and so on. If the project cost $1 million to complete and the borrower was asking for $800,000, the loan-to-cost (LTC) ratio would be 80%.
LTC% = Loan Amount/(Total Cost to Build)
NPV (Net Present Value)
The sum of the present values (PVs) of incoming and outgoing cash flows over a period of time. Incoming and outgoing cash flows can also be described as benefit and cost cash flows, respectively. In a typical real estate investment, the initial investment is expressed as a negative number, and all future cash flows are usually positive numbers (hopefully!).
IRR (Internal Rate of Return)
The interest rate at which the net present value of all the cash flows (both positive and negative) from a project or investment equal zero.
Formula: This is an iterative calculation solving for r (rate) in the NPV formula above. To solve you try different values for r to get the NPV to 0. (Or better still, use a financial calculator!) The value of r that makes the NPV 0 is the IRR for that project. The IRR factors in the time value of money. i.e. A $1,000 three years from now is worth less than $1,000 today.
ARV (After Repair Value)
After Repair Value (ARV) is the projected value of a property after repairs have been made to it, based on comparable properties in the area.
ARV% = (Price+Repair Cost)/After Repair Value