The real estate sector offers a great opportunity for earning a high income. However, given the investment size, one needs to be extra cautious and understand the market well to gain maximum benefits.
Similar to other industries, there are some acronyms in real estate you must know. It will help you move ahead in the right direction and take your decisions well.
Consider going through the guide to know about the common acronyms used in the real estate industry. They can be extremely beneficial.
1. Net operating income
It is the measure of whether a real estate property is profitable. The net operating income is calculated by estimating the property’s revenue and deducting all the expenses, including maintenance repairs, property taxes, etc. Remember, the income does not include mortgage payments.
It is an essential aspect as it allows to analyze the different types of property without looking at financial terms.
2. Cash flow
The amount of income you will have at the end of each month after all the operating expenses have been paid off. When you spend less money than your actual income, the cash flow will be positive. In contrast, when you spend more money than the income, the result will be negative.
Consistent monthly rental is one of the biggest reasons investors consider real estate properties. The investment property must bring and positive cash flow. It would mean the rent is higher than the monthly mortgage, which provides passive income.
3. Cash on cash return
It is a ratio of pre-tax cash flow paid annually to the amount of cash invested. The return is expressed in percentage form. It helps measure the early return to the amount of money you invested. However, there is no consideration for rental property ownership benefits like loan pay down, tax benefits, depreciation, etc.
Whereas the calculations that were done under the standard are considered the total return on investment. The percentage shows the amount you are left with after one year divided by the cash you invested in the property.
It is a great means to analyze the investment by focusing on the returns based on the invested cash. Besides, it also helps understand the effects the cash on cash return will look like when a mortgage loan is used to finance investment.
4. 1031 exchange
It is a highly common term you will hear in the real estate investment sector. 1031 exchange help sell a property without any chance of paying capital gain taxes. In this exchange, one sells the property for another property that is of a similar amount. For someone, who is hoping to defer the tax payments, the 1031 exchange offers the right opportunity.
An appreciation is considered as the increase in the asset’s overall value with time. An increase in the value can be due to increased demand, inflammation, weakening supply, etc.
Like property’s cap rate appreciation, a puzzle is to be considered while evaluating the overall appeal of the investment property. There will be an increase in the rental market value, leading to an increase in the ROI.
It is considered the difference between the property’s current market value and the mortgage amount you pay for it. When you are hoping to sell the investment property, the equity amount will be the leftover amount you have after paying off the mortgage in full.
The value of equity can increase over the years. It happens as the mortgage balance decreases and the market value of the property appreciates.
Building home equity is a great way of acquiring long-term wealth. At some point, you will need the home equity whether to fund your retirement or to upgrade to a new home.
7. Capital gain tax
It is a difference in the property’s value in comparison to the actual purchase price. When there is again, it is realized once the property is sold. A short-term capital gain can generally be one year or less. At the same time, the long-term growth is more than one year.
Short-term capital gains come with higher tax rates. So, understanding how the real estate property is taxed is vital when looking to optimize the return and performance.
8. Debt to equity ratio
In the real estate sector, the debt to equity ratio is considered the measure of ownership. It helps determine how much property you own and the amount you have to pay for the debt. It is essential as it helps figure out the actual worth and clear picture of the investment.
It tells you about the capital you have actually invested vs. the amount you have to pay for the investment. Thus, you will understand better the amount you need to pay.
It also matters when you are looking for refinancing the property or borrowing it against the home equity as lenders consider the debt-to-equity ratio to identify the creditworthiness.
9. Closing costs
The closing cost is the total amount of payment you have to pay as real estate transaction fees. The cost will vary depending upon the area you are leaving, the property you have purchased, and the type of loan you have chosen to fund the investment.
There are different costs associated with inspection loans, origination, title transfer, etc. You must consider the closing costs meaning the budget to have enough cash on hand for the purchase.
10. LTV (Loan-To-Value)
The value helps measure the total amount of debt on owner’s property to the current market value. Generally, real estate investors use LTV of not more than 75% to 80%. A property that has a larger LTV than 80% is described as being over-leveraged and comes with a greater risk of negative cash flow.
In the case of lower LTV, there is less risk associated. Besides, low mortgage payments offer investors an opportunity to use the net cash for capital repairs when there is an extended vacancy in the property. It also helps minimize the risk of having negative equity, which is sometimes described as upside down during a downward real estate cycle.
11. CRE (Commercial Real Estate)
Commercial real estate is one of those investments that help gain income. It is divided into categories like retail, industry, office, and larger multifamily apartment buildings. In contrast, residential real estate property includes townhomes, single-family homes, etc. Both residential and commercial property help generate potential cash. However, you need to consider the advantage and other aspects of both to decide which one is the best for you.
As a beginner, understanding real estate isn’t accessible. One must be alert and consider things before you make a final move of investing. Thus, it will be better if you have professionals to guide you.
Private Capital Investors can offer you the right help. We have skilled professionals who will guide you about the right deals you can make and other aspects of the investment.
With our assistance, you will make a good investment that helps bring you passive income. So avoid taking the risk with your investment and contact us to get all the help you need with your first real estate investment.