When investors consider whether they should go for real estate or another strategy such as stocks, one of the most important factors is how quickly they will recover their initial capital and start making profit. The metric which shows this for real estate investments is called gross rent multiplier, or GRM for short. While this sounds like a complicated concept, the gross rent multiplier formula is quite straightforward and easy to calculate, to the delight of beginner real estate investors. So, make sure to read this article to the end if you’d like to learn how to calculate gross rent multiplier and how to use it for buying an investment property with a good return.
What Is Gross Rent Multiplier?
Let’s start right away with the gross rent multiplier definition. In simple terms, the GRM is the ratio of the sale price – or market value – of a real estate investment property to the gross annual rental income which it generates. It is important to remember that the GRM calculation excludes recurring expenses such as property tax, insurance, maintenance, repairs, property management, and utilities.
Following is the precise gross rent multiplier formula which real estate investors can use with an ease when comparing rental properties they are considering buying:
Gross Rent Multiplier Formula:
GRM = Sale Price/Gross Annual Rental Income
How Do You Calculate Gross Rent Multiplier?
Real estate investing for beginners is all about real-life examples, so let’s have a look at two actual MLS properties for sale listed on Mashvisor’s website in order to see how to calculate gross rent multiplier. These two investment properties for sale are listed for the same price but are expected to generate different levels of rental income, both as traditional rentals and as Airbnb rentals. Here are some of the figures provided by Mashvisor’s investment property calculator:
- Location: Granada Hills neighborhood, Los Angeles real estate market
- Listing Price: $205,000
- Comparable Monthly Traditional Rental Income: $2,745
- Comparable Monthly Airbnb Rental Income: $4,942
- Location: Hyde Park neighborhood, Los Angeles real estate market
- Listing Price: $205,000
- Comparable Monthly Traditional Rental Income: $1,541
- Comparable Monthly Airbnb Rental Income: $2,117
Here is the gross rent multiplier calculation for these two rental properties:
Traditional Rental Property #1 GRM = $205,000/(12x$2,745) = 6.22
Airbnb Rental Property #1 GMR = $205,000/(12x$3,230) = 3.46
Traditional Rental Property #2 GRM = $205,000/(12x$1,541) = 11.09
Airbnb Rental Property #2 GRM = $205,000/(12x$2,117) = 8.07
Getting to those numbers was easy. But let’s be honest – they don’t provide much value to beginner real estate investors as is. Knowing how to determine gross rent multiplier is an important skill but does not suffice to make profitable real estate investments. Thus, we need to have a more detailed look at this metric to see how to use it to compare specific real estate investment opportunities.
How Should Real Estate Investors Use the Gross Rent Multiplier?
As you have probably deduced by now, GRM shows the number of years it will take for a rental property to pay for itself. The best advantage which the gross rent multiplier offers is how simple it is to calculate, especially compared to more sophisticated measures of return on investment in real estate such as the rate of return, cap rate, and cash on cash return.
Now that we know how to calculate gross rent multiplier, let’s see how real estate investors can and should use it to make smart property investments. There are two basic ways in which both experienced and beginner real estate investors can make use of the GRM:
1. Choose between Investment Properties for Sale
First and foremost, the gross rent multiplier formula is used to compare various real estate listings to decide which one will pay the fastest for itself. In our example above, when used as long term rental properties, Investment Property #1 has a GRM of 6.22, while Investment Property #2 has a GRM of 11.09. This means that Rental Property #1 will need about 6 years and 3 months to generate traditional rental income equivalent to its purchase price. For comparison, it will take Rental Property #2 11 years and 1 month to recover the sale price in the form of traditional rental income. You don’t have to be a real estate expert on the Los Angeles housing market to conclude that – based on GRM – it makes much more sense to buy Investment Property #1 rather than Investment Property #2.
2. Decide on the Optimal Rental Strategy for an Investment Property
The second way to utilize the gross rent multiplier in your real estate investment decisions is to choose the best rental strategy for a particular investment property. Let’s say that for whatever reasons you decide to buy Rental Property #1. As a beginner real estate investor, you probably still don’t have your mind set on how to rent your property: as a traditional Los Angeles investment property or as an Airbnb Los Angeles rental. One of the best things to do in this case is to have a look at the GRM of this property for the two rental strategies. If rented out traditionally, Investment Property #1 will need more than 6 years to pay for itself, while it can do that in less than 3 years and a half when rented out on Airbnb. Put this way, the decision becomes quite easy, right?
What Are the Shortcomings of the GRM?
Unfortunately, similar to everything else in the real estate investing business, GRM is not perfect. While knowing how to calculate gross rent multiplier provides an easy property valuation method, it doesn’t really tell a real estate investor all that he/she needs to know about the potential of a rental property to generate return on investment. The most significant disadvantage of the gross rent multiplier definition is that it leaves out the one-time startup costs associated with buying an investment property as well the recurrent monthly or annual expenses for managing a property. The truth of the matter is that these costs can amount to a lot and thus tip the balance in a different direction.
Let’s go back to our two properties and have a look at both the GRM and the cap rate (keeping in mind that the latter takes into consideration the expenses):
Investment Property #1:
- Traditional GRM: 6.22
- Airbnb GRM: 3.46
- Traditional Cap Rate: 2.65%
- Airbnb Cap Rate: 10.02%
Investment Property #2:
- Traditional GRM: 11.09
- Airbnb GRM: 8.07
- Traditional Cap Rate: 2.67%
- Airbnb Cap Rate: 3.11%
In this case, the general conclusions which a real estate investor needs to draw change a bit. Taking the cap rate into consideration, Investment Property #2 is slightly more profitable as a long term rental, which is not the case if we look at GRM alone. Another important fact which emerges is that only Investment Property #2 provides return on investment which is above the generally accepted level for a good cap rate of 8% or more.
If you are new to real estate investing and are starting to get worried that you can’t rely on calculating the gross rent multiplier only and will need to get into complicated calculations such as cap rate and cash on cash return, no need. Just use Mashvisor’s rental property calculator, where you will find reliable return on investment calculations based on actual real estate comps and rental comps from the neighborhood.
Where Do You Find Real Estate Data for GRM?
The answer to this question is easy: Mashvisor. Our real estate investment tools will provide you with all the real estate data that you need in order to calculate gross rent multiplier. You will find the listing price as well as the expected traditional and Airbnb rental income for MLS properties and foreclosed homes for sale. Furthermore, you can plug in any off market property you are aware of, and the platform will provide you reliable estimates of these numbers.
What Is a Good Gross Rent Multiplier?
Now, let’s get to the final question which must be picking the brains of new real estate investors: “What is a good gross rent multiplier?”.
Obviously, the lower the GRM, the better – the faster you will get back your initial investment. But how low of a gross rent multiplier is it realistic to expect? And how much is too high?
The consensus among real estate experts is that investors should aim for properties with GRM between 4 and 7. Of course, anything below 4 is also a very good gross rent multiplier but might not be very realistic.
If we go back to our two rental properties, our gross rent multiplier calculation shows that Investment Property #1 has a good GRM regardless of the rental strategy, while Investment Property #2 has a bad GRM for both rental strategies.
Now that you know how to calculate gross rent multiplier, you are one step closer to becoming a successful real estate investor in the US housing market. To get all the other real estate data and return on investment calculations that you need, simply use Mashvisor. This platform helps you find top-performing investment properties throughout the US real estate market which match your exact expectations and requirements.