Estimate Rental Value in 6 Easy Steps: A Guide

Whether you’re new to investing in rental properties or not, discover how to estimate rental value before you start renting out your property.

Table of Contents

1. What Is Rental Value?
2. Why Is It Important to Estimate Rental Value?
3. When Should You Estimate Rental Value?
4. How to Estimate Rental Value in Six Steps
5. The Best Tool for the Job

Some real estate investors, especially new investors, overestimate or underestimate the value of their rental property. It drives away prospective renters who believe they are being overcharged or brings in a horde of bargain hunters who are searching for a steal. Either way, it is not a profitable investment strategy.

In this article, you will discover how to properly estimate rental value so that you don’t scare away serious renters. You’ll know why it is important to estimate the rental value of your rental property and when you should perform this estimate. You will also learn about Mashvisor’s online investment calculator to make estimating your rental property faster and easier.

What Is Rental Value?

Rental value is the fair amount tenants are willing to pay to rent a piece of property that is similar to other properties at a particular time. The comparison between similar investment properties is justified if the properties have the same or close to the same features.

When you estimate the rental value of your property, don’t price your home so high. If you do, you will hear a lot of complaints from your tenants. Tenants will expect that your home should be in top shape due to the amount they are spending on rent. Rent value can also be called a fair market value that a home commands at that particular time.

Why Is It Important to Estimate Rental Value?

As a real estate investor, you must know how to estimate the value of your rental property. You will need a reliable estimate of your property’s rental value when you want to secure a bank loan. The bank will want to see that the home you want to invest in can provide enough cash flow to repay the loan within the stipulated time frame.

In the case of a disagreement, where a tenant sues you, knowledge of the rental value of the home can come in handy. Also, if you are going through a divorce, the estimated rental property value can help decide how much you can pay or receive as alimony and child support payments.

There are many reasons why you should know how to estimate the rental value of your investment property. There is no downside to discovering how to do it as an investor. It can come in handy both in your personal and professional life.

When Should You Estimate Rental Value?

Firstly, you should always estimate rental value because property values rise and fall all the time. It means that there is no specific time to estimate the rental value for your property. But the best rule of thumb is before you buy the property. In such a way, you get an idea of how much the property will bring in as cash flow every month or year.

Some real estate investors would think that just because the property looks great, the rental value would also be high. That’s false. Established and knowledgeable investors understand that the attractiveness of a property does not necessarily mean that the property will bring in enough rental cash flow. Therefore, you must know how to determine the rental estimate of the property.

Seasoned real estate investors understand that the rental value estimate also depends on the properties around it and the neighborhood it is located. So, they always perform an estimate of the rental property. You should do it before you buy the property or before you rent it out – that is if you had to renovate the property – and as soon as a tenant vacates your property.

Related: Investing in Rental Properties for Beginners: The Complete Guide

How to Estimate Rental Value in Six Steps

So far, you’ve discovered what a rental value is and its importance. The next thing you should do is learn how to estimate rental value. It answers the question of how much you should charge as rent for your property.

Even though there are different ways how to estimate the value of your rental property, your primary aim is to get a fair price for you and your tenant. You don’t want to price it too high because you will drive away tenants. On the other hand, you don’t want to price it too low so you don’t deprive yourself of potential profits from your property.

Therefore, to discover how to estimate your home, here are six simple steps for estimating the value of a rental property:

Step 1: Determine Your Investment Property’s Market Value

Many investors run to a listing page to determine the fair market value of their investment property. While it is not bad, determining the rental value estimate of the home yourself is the best step to take. Why? Real estate prices fluctuate and the price of a property today may not the same tomorrow.

Therefore, if you want to use last year’s price listings to determine the amount you will charge tenants as rent today, you will either price the home too high or too low. Either way, it is not the best option.

As an investor, there are five best ways how to determine the value of your rental property and how much you should charge tenants. They are:

• Sales Comparison Approach
• Capital Asset Pricing Model
• Income Approach
• Gross Rent Multiplier Approach
• Cost Approach

Sales Comparison Approach

As the name suggests, the sales comparison approach (SCA) simply means pricing your property based on the prices of similar homes over some time. You can use the SCA to obtain a rough estimate of how you should price your home.

The sales comparison approach looks at similar properties based on the structure, the number of bedrooms and bathrooms, and also, the square footage of both the property and the surroundings. The given information is used to determine if one or two properties are similar and whether or not they can and should be compared using the SCA.

Capital Asset Pricing Model

The Capital Asset Pricing Model (CAPM) mainly looks at the risks and opportunity costs of the home. It looks at the return on investment (ROI) of the home as compared to other investments with little to no risks involved. The CAPM looks at the inherent hazards of renting out real estate.

Income Approach

The income approach refers to the method of estimating rental value solely based on the income generated by the rental property. It is simple to make this calculation. For instance, if a home costs $300,000 to purchase and the rent each month is $2,750. It means that the amount expected every year would be:

($2,750 x 12) / $300,000 = 0.11%

Gross Rent Multiplier Approach

The gross rent multiplier approach is a quick way to investigate whether an investment property is worth it or not. The approach values an investment property based on the fair rent an investor can collect yearly. The amount is usually before costs incurred like taxes and utilities.

Using the example above, let’s assume that a home sold for $300,000 in the neighborhood, and an annual income of $33,000. It means that the gross rent multiplier can be calculated by dividing the value of the property by the annual income.

($300,000 / $33,000) = 9.09

Cost Approach

The cost approach is a simple method that says that the price a renter should pay for a rental property should be close to or equal to the amount it cost to build that same property. In this approach, the value of the property is and should be equal to the cost of the land, plus the total costs of constructing the building, minus depreciation.

Step 2: Use the 1% Rule

In real estate, the 1% rule is a rule that measures the value of a rental property against the income it will generate. The rule calculates if the monthly rent collected from an investment property would be more than the monthly mortgage payment. Its purpose is to guarantee that the rent is larger than or equal to the mortgage payment so that the investor at least breaks even on the property.

Here is how you can use the 1% rule using the calculations from the first step above; assume the purchase price for a home is $300,000. Using the 1% rule, multiply $300,000 by 0.01.

$300,000 x 0.01 = $3,000

The above figure means that you must find a payment plan where the monthly mortgage payment does not exceed $3,000. Then, you should charge tenants more than $3,000 so that you can make some profit on your property. It is the fair market value for your home.

Assuming that your home needs some repairs that cost $15,000, add the purchase price to the repair expense, bringing the total cost to $315,000. Then, you multiply the amount by 0.01 to get your minimum monthly payment of $3,150.

Some advantages of using the 1% rule are that you can use it to compare rental properties with one another, and also, it provides a good starting point when negotiating. One of the rule’s drawbacks is that it doesn’t take into account factors like maintenance, taxes, homeowners dues, and other related costs.

Related: How to Value Rental Property: The Ultimate Guide

Step 3: Research Similar Properties

You now know the fair price point you would use to rent out your property. However, instead of immediately going out to get tenants, you should first research similar properties to yours. It is important because even though you have a fair estimate of how much you want to rent out your property, there will be some shortcomings in relation to the 1% rule.

You want to know if other properties have similar numbers or not. If they don’t, find out why. It may be because of taxes, repairs, or maintenance. But no matter what you do, don’t immediately use the number obtained above to rent out your property. Make sure you’ve researched other properties and that their prices are similar to yours. Doing this is called rental comps.

What Are Rental Comps?

Rental comps mean comparing different rental properties with features that are similar to each other in the same neighborhood or area.

Advantages and Disadvantages of Rental Comps

An advantage of using rent comps is that it will always be useful in the real estate industry because people like to compare homes. In addition, investors use it as a guide to evaluating what is going on in the market at a particular time. It also helps in setting a fair rent for a rental property.

Rental comps also come with their own share of disadvantages. For instance, data from websites nowadays only show about 5% of a rental property’s actual performance in the market. Market analytics provide the remaining 95%. Also, the market is moving quickly and investors want data faster than ever before.

How to Find Rental Comps

There are many simple ways to find rental comps. For instance, you can use offline sources like real estate agents, some of whom know the fair amount real estate investors are charging for their properties. Another offline way to find rental comps is by meeting with property management companies. Finally, you can meet with fellow investors who would be willing to help.

You can also find rental comps online by using online tools like Craigslist or Mashvisor’s rental property calculator.

Step 4: Estimate Your One-Time and Recurring Expenses

After researching similar properties, your next step is to estimate your one-time and recurring expenses. One-time expenses are incurred when buying rental properties while recurring expenses occur even after the purchase of the rental property. It is important to know the estimated one-time and recurring expenses to be able to calculate the fair amount to charge tenants.

Examples of one-time expenses are:

• Escrow fees (Between 1% and 2% of the cost of the home)
• Transfer taxes (1% for a home below $200,000 and 2% for homes above $200,000)
• Notary fees (Between $0.25 to $20)
• Title insurance (From a few hundred dollars to around $2,000)
• Appraisal fee (Around $300 to $400 for a single-family home)
• Recording fee (An average of $125 on closing)
• Title cost (Around 2% to 5% of the loan amount)
• Home inspections (Between $279 to $399 depending on your location)
• Home protection plans (Around $25 to $50 a month)

Examples of recurring expenses are:

• Property taxes (4% of the cost of the home yearly)
• Insurance premiums (Depending on the price of the home, around $130 to over $1,383)
• HOA dues (Between $100 to $1,000 monthly)
• Hazard insurance (Between $1,250 to $1,650)

Related: How to Estimate Rental Property Expenses Before Buying

Step 5: Use a Reliable Online Calculator Like Mashvisor

After estimating your one-time and recurring expenses, the next thing is to discover how to use a reliable online calculator to determine the fair amount to charge your tenants. Mashvisor can help you here.

Mashvisor is the number one online investment property calculator that not only helps you find profitable investment properties but also helps you estimate how much you should buy or rent them out. It does so by calculating the prices of the surrounding rental properties and using the data to accurately estimate the value of your property.

Mashvisor’s online investment calculator makes it easier to reach your goals. All you need to do is enter the information and numbers you got from the previous steps. Then, sit back while Mashvisor finds the best rental properties for you.

The platform’s rental property calculator provides more insights and analysis into the best type of home to invest in and also the estimated rental value of the property.

Step 6: Adjust the Rental Value Accordingly

The value of a rented space may fluctuate rapidly over the years. As a result, landlords and renters frequently agree to adjust the value of future rent. It may apply to renewal options, expansion, and periodic rental hikes. The elements and processes used to determine fair values significantly impact the ultimate amount of fair market rent.

You need to consider several factors when estimating your rental value. They include amenities, location of the rental property, competitors, and the demand for rental properties. Take note also of the number of bedrooms and bathrooms, the condition of the rental property, the availability of adequate parking, and many others. They all add to the rental value of an investment property.

To discover how to adjust the rental value of your rental property, there are many things you can do. For instance, you can reduce your expenses, raise the rent, improve your home appeal by beautifying it, or add one or two bedrooms and bathrooms. They will help you increase the rental amount you charge tenants.

For example, with our above example of the $300,000 property and the 1% rate of $3,150. You can raise your profit if you reduce expenses from $15,000 to $12,000. Your total amount will come to:

$312,000 x 0.01 = $3,120

It means that you can still charge $3,150 and above to make more profit. Now, imagine doing it for other expenses, you will make more money.

Conclusion

To discover how to estimate rental value, there are several factors you must consider. Doing it alone might make the process daunting. That is why this article was written to help you discover how to estimate your rental home.

You’ve discovered what a rental value is and why it is important to estimate the rental value of your investment property. Also, you’ve learned why should estimate your home’s rental value home and how to calculate the figure. To make the process easier for you, use an online tool like Mashvisor.

Mashvisor’s online calculator reduces the time that it will take you to complete an assessment of a rental property to minutes. All you need to do is plug in the relevant numbers, and the calculator will give you a reliable estimate of the rental value of your investment property. Plus, Mashvisor’s online calculator is easy to use.

Click here to start your 7-day free trial, followed by 15% off for life.