Is there a formula to ensure success in rental property investing? What’s the difference between an investment property that succeeds versus one that fails?

Of course, there is no formula or answer for guaranteed success, but the best resource many investors rely on is Gross Rent Multiplier (GRM).

The sole purpose of GRM is to calculate the rate of return by screening potential investment properties and computing rent. It’s similar to other real estate valuation tools with one expectation: GRM analyzes rental properties using only its gross income.

The essence of GRM is a grading standard linked to the property’s income possibilities and the traditional real estate conditions like price, age, market demand, and upkeep.

GRM income models keep pace with the changing rental market, much like the real estate’s fair market comparisons. Its calculation method assures you’re buying the right investment property (profitable) versus the wrong property (unprofitable) in a marketable location.

Calculating GRM

Gross Rent Multiplier is a mathematical formula used to express a property’s potential income based on the ratio of the property’s price to gross rental income. Insert the fair market value (or the asking price) and divide by the estimated annual gross rental income. As an investor or landlord, you’re looking for the number of months or years it’s going to take for this investment to pay for itself.

Here’s the formula:

• Price/Gross annual rent = GRM
• Property price $300,000 / Annual gross income (rent) $30,000 = GRM of 10.0

The price is $300,000, and the monthly rent is $2,500 multiplied by 12 months to generate $30,000 per year. Now, you’ve got all the numbers needed to calculate the GRM. The payoff period is 10 years.

What’s not included are the operating expense, the rate of vacancies, cost of insurance, and taxes. You can get this information from the seller’s financials. Two industry options used for a rough estimate of these costs is:

• 1% of the current property value
• $1 per square foot.

Purchasing Income-Producing Investments

Too often real estate investors make the mistake of using the fair market value to calculate the potential income property. The problem with this method is the very nature of real estate is volatile – driven by changes in mortgage interest rates and tax laws. Interest goes up and the cycle begins. Home buying slows down, the number of renters increase, and vacancies decrease satisfying cash flow.

Whether the property is new or older, GRM is a valuable tool for investors looking to buy real estate income streams.

Keep in mind; lower GRMs may pay off the property sooner making it a faster return of investment. However, there’s a risk factor that could trigger higher maintenance costs, affecting cash flow through the initial investment years.  

Here’s the grading pattern for GRM:

• 8 to 10 – 25 years or older, possible overdue maintenance.
• 10 to 12 – 10 and 20 years, modernizing maintenance.
• 12 – New quality property 1 -10 years of age, routine maintenance.
• 14 – High rent properties, under ten years of age, efficiency maintenance.

Monitoring Property Rent Values

Now, you know how GRM is calculated and how to compare the GRM investment values. The next function we’re going to talk about is how GRM helps you measure the property’s rental performance.

Although the formula has some limitations, investors misunderstand its multiple purposes:

1. You can use it to compare other gross rent properties in comparable locations.
2. When evaluating rental data, you can break down the GRM analysis to reveal variable rental prices.

In other words, by gauging the market’s rent in the area, you now have a tool that measures the investment’s market position. True to its real estate roots, property location, and conditions (maintenance) make a difference in earned income.

The calculations give you an idea of how your property conditions and rents measure up against the competition. Don’t forget; not everything is predictable. Being armed with the right information can help prepare for the unexpected.

GRM provides information on key concepts of investment rental properties, offering investors a competitive edge in a changing market segment.  

All investments come with some level of risk. As a financial strategy GRM works as an assessment tool based on collectible facts. It doesn’t mean that every property meeting the minimums of GRM will produce a profit. But it does provide information to make a good investment decision.