Real estate investment decisions are made according to the criteria of the investor. Unless the rental property serves some other purpose, perhaps to close a 1031 tax exchange in a hurry, cap rate, internal rate of return, cash-on-cash return, or some other factor or combination of all factors, tell the real estate investor whether to make the investment or walk away. Real estate investing, after all, is all about the numbers.
However, there is the question of any “upside rental potential” associated with income-producing property that prudent real estate investors should consider before making investment decisions. This is not always the case, however. Surprisingly, there are times when real estate investors pass up good property investment opportunities because they do not adequately consider the potential of a property’s upside in rental income.
An income property with “upward rental potential” simply implies that its rents are lower than what the market will bear and the “potential” to charge higher rents and generate more income is a real possibility. For the real estate investor looking at income property, it means “wait and don’t make any deed decisions until you’ve reassessed the cash flow based on various other rental scenarios.”
Believe it or not, sellers (or their agents) sometimes, either through negligence or faulty research, fail to consider the true income potential of the property when setting a price. If so, then any APOD, Proforma, Marketing Package or other income and expense statement presented to you misrepresents income and every key rate of return that guides your investment decision. If you don’t question yourself, and trust those numbers and see them as unfavorable, you could miss out on a good investment opportunity. Happens.
Always do your own rental survey. Find out what comparable rental properties in the area are getting for rent, and then make your own assessment of what the market will bear. You may discover something the seller overlooked, or you may find that the seller priced the property without considering the rental potential at all.
Then run your own numbers. Using the rents you think are most in line with the market, recalculate the investment property’s cash flow, capitalization rate, cash-on-cash, internal rate of return, and other financial measures. Who knows, you might discover a nugget of a deal that you might have otherwise missed out on. Happens.