Real Estate Glossary
Appreciation refers to the increase in the value of a property over time. Appreciation can be caused by a number of things including inflation, the increase in demand or a decrease in supply of properties. Appreciation can also take into account added value as a result of property improvements (such as upgrading a kitchen, adding a room or a pool, etc.). Appreciation is usually projected as a percentage of the property’s value over the course of a year.
The capitalization rate, or “cap rate”, is a formula used to determine the value of a real estate investment. The cap rate percentage is found by dividing the net operating income of a real estate asset (expenses minus income) by the current value of the asset. The cap rate is always calculated using the current value of the asset, rather than the purchased value of the asset.
Cash flow is the flow of money in and out of a business, or in the case of a property, it’s rent generated by the monthly rent collected vs. the monthly expenses (taxes, HOA fees, mortgages, etc.). When investing in real estate, most investors look for a positive cash flow from a property.
Cash Flow Property
A cash flow property is an investment property that generates a surplus of money each month after all expenses have been paid. Cash flow properties are highly sought after by investors.
Cash on Cash Return
Cash on cash return refers the annual cash return of a property divided by the amount of cash invested. When a property is purchased outright (no leverage), this is also referred to as the property’s cap rate.
When a property is purchased using leverage, this number differs from the property’s overall return, as it does not include the equity gained by the principal portion of the mortgage payment.
Commercial Real Estate
Commercial real estate is defined in opposition to residential real estate. The definition of commercial properties encompasses industrial properties, medical facilities, office buildings, retail centers, and multifamily complexes. It can also refer to land that will be developed into a commercial project in the future.
Equity is essentially how much the stake in ownership on a property is worth; it is the difference between the current market value of a property and the amount owned by the owner on a mortgage (if any). As a mortgage gets paid off the owner’s equity grows.
When a property is sold, the equity is the difference between the purchase price and the sale price. The market drives the property’s equity but improving and upgrading the property can increase it.
Internal Rate of Return (IRR)
The IRR of an investment is the point at which the net value of investment expenses equals the net value of asset income. These are both calculated at the current value of the investment and not the purchased or future value of the property.
The internal rate indicates at what point an investment could be considered profitable. If an IRR is above a pre-defined number it is an acceptable investment. It also establishes the growth potential of an investment.
Investment Location Manager (ILM)
HomeUnion Investment Location Managers (ILMs) are the boots on the ground in our each of our investment zones. These individuals have long histories in their local real estate markets and serve as HomeUnion’s local point of contact.
ILMs provide data on their local markets, vet properties, acquire the property on behalf of the investor, provide inspection prior to purchase, and provide local oversight for the entire investment process. Investment Location Managers are brokers who work exclusively for HomeUnion so there is never any conflict of interest.
IRA investing refers to using your IRA or retirement account to invest in property. Returns on property purchased with an IRA are generally tax-deferred. However, returns must go back into the IRA account, and cannot be spent prior to retirement.
IRA investing allows people to transfer funds to a self-directed IRA to purchase real estate. It also is possible to obtain a mortgage using the funds in an IRA account, so any type of investment property that you might ordinarily purchase with cash or a mortgage can also be purchased using an IRA.
A leasing fee is paid to the property manager when they sign a lease with a new tenant. If a tenant renews their lease there is a re-leasing fee.
A leveraged return is the return calculated on an investment that takes advantage of a mortgage. It is calculated by subtracting the expenses incurred by the property (including the interest payment on the mortgage) from the income produced by the property and dividing that by the initial investment amount.
Calculation: Income – expenses (including interest payment) / initial investment amount
This differs from the cash on cash return because it includes the principal pay down as part of the return.
While slightly riskier, using leverage is advantageous to investors as it provides higher returns, enables them to diversify across multiple properties. For example, an investor can purchase one property for $100,000. The same investor can get four properties of $100,000 each, by putting down $25,000 on each property.
The one percent rule refers to the rent to expense ratio an investment property must have in order to be profitable. While there are a number of expenses to keep in mind, the rent on an investment property must be at least 1% of the purchase price to have a positive ROI and be considered a favorable investment asset.
Real Estate Owned (REO)
A Real Estate Owned or REO property is one owned by a lender, usually a bank. Lenders generally only take title of properties after an unsuccessful selling attempt at a foreclosure auction. Lenders often attempt to remove any liens or extraneous expenses before trying to sell the property. REO properties can often be purchased below market value making them a great interest to investors.
Rehabilitation refers to the repairs that need to be done to make an asset tenant-ready. Prior to purchase, properties are given a primary inspection by our ILMs to ensure that extensive repairs are not necessary.
Rehabilitation can include minor fixes such as paint and lighting upgrades but can also extend to more large-scale repairs such as roof replacement and plumbing upgrades. Should such large-scale upgrades be necessary, the investor will be notified prior to purchase and can choose to forego the purchase. Rehabilitation costs are generally included in the purchase price.
Turn-key Properties are rent-ready, and do not need any rehabilitation.
Remote investing empowers investors to own property that is geographically removed from their own primary residence. Traditionally real estate investors tend to purchase property that is “in their backyard” so they can keep an eye on their investment. This generally means that the investor is also a landlord and must keep up with the daily maintenance of the property.
Remote investors purchase property in areas that have favorable returns. Remote investing allows investors to take advantage of lower property costs or higher rents that may not be available near their primary residence.
Retail investors, also know as an individual investors or small investors are investors that buy and sell investment assets for their personal account. Retail investors are defined in opposition to institutional investors. Retail investors generally invest at significantly lower amounts than institutional investors.
Self Directed IRA (SDIRA)
A SDIRA or Self Directed Individual Retirement Account is type of account that provides tax benefits to money deposited for retirement. Any income from the account is taxed at the tax bracket the account holder reaches upon retirement, which is often much lower than their pre-retirement tax bracket.
The only difference between a SDIRA and a typical IRA account is the type of investments the account holder is permitted to make. In addition to traditional stocks and bonds a SIDRA can be used to invest in alternative investments such as real estate, tax liens, and notes.
The money in the account can be invested just as the funds in any standard account can as long as the dividends are returned to the account. Funds cannot be accessed until the account holder reaches retirement. Additionally, all asset expenses must be paid for using funds from the account.
A SDIRA has the ability to hold a mortgage though the terms differ from traditional mortgages. This loan, called a non-recourse loan, is often at a higher rate than a traditional mortgage. It does allow investors to leverage their funds to create a greater ROI.
Single Family Rentals (SFRs)
A single family rental, or SFR is a free-standing residential property designed to house one family that was purchased by an investor and rented to a tenant. SFRs are defined in opposition to a multi-family property, though properties up to a fourplex are sometimes classified as SFRs as well. Properties with more than four units are defined as multi-family properties. Single family properties generally appeal to families, so from an investment perspective, can be seen as more stable. Families tend to want to stay in one place for longer, especially when they have children. HomeUnion offers fully managed SFRs investments across a wide variety of markets in the US.
HomeUnion Real Estate Solutions Managers are our investors’ primary point of contact. The Solutions Managers have a number of functions, including: assessing investors’ investment goals, guiding them to assets that meet those goals, facilitating the interaction between ILMs and clients, and overseeing the entire investment process.
Turn Key Property (TKP)
A turnkey property, or TKP is a property that has been purchased, rehabbed and rented to a tenant and is now for sale to another investor. Turnkey properties usually cash flow from the moment the investor purchases it since the property is already rented.
The money that investors set aside to prepare for future vacancy is called a vacancy provision. It is a percentage of the monthly rent. The average vacancy provision is 6% for vacancy and 6% for maintenance.