Gross rent multiplier is a metric that helps real estate investors assess the potential of an investment property. It’s one of the most basic ways to determine whether or not a property is worth your time and money. Here we’ll explain what the gross rent multiplier (GRM) is, how it works, and when you should use this metric for screening purposes.
What is Gross Rent Multiplier (GRM)?
Gross Rent Multiplier (GRM) is a calculation that can be used to value income-producing properties. It is the ratio of the property’s gross annual income to its purchase price. The GRM tells you how many years’ worth of rent it will take to pay off a property. The lower the GRM, the faster the payoff period.
What’s the Difference Between Gross Rent Multiplier, Cap Rate, and NOI?
GRM, Cap Rates, and NOI are usually lumped into the same basket since they’re all important real estate analysis metrics. But, they operate for very different purposes:
GRM: How quickly a property can be paid off.
Cap Rate: A property’s return on investment percentage if purchased in cash.
NOI (Net Operating Income): The actual profit a property takes home.
Since GRM is using GROSS revenue, it doesn’t have the same type of accuracy that cap rates and NOI have, which calculate for profit (net income) in their formulas. Think of GRM as more of a “back of the napkin” type calculation which can be used to easily weed out potential properties that don’t make the cut.
How to Calculate Gross Rent Multiplier
The lower your GRMs on all your assets, the more income you can expect to take in when compared to the property price.
GRM = Purchase Price of a Property/Gross Annual Income (Total Rents)
An Example of GRM
Let’s say you’re looking at a rental property with a purchase price of $400K. You know that you can charge $2,000 per month in rent after you purchase it. This means that your annual income for the property will be $24K. Your GRM would look like this:
$400,000/24,000 = 16.7 years
What is Considered a Good Gross Rent Multiplier?
Gross rent multiplier is a measure of the rent relative to the value of the property. In other words, it shows how much income you can expect from an investment property, but not to be confused with the cash flow on a rental property. The standard for a good GRM has changed throughout the years and is changing as we speak thanks to high home prices and lagging rent raises.
The GRM will also change based on the market, which is why many investors look to buy rental properties out of state. You can get far cheaper homes in rural Alabama than you can in Florida. But, the rents between these two areas may not be that far off.
A Florida investor could expect a higher GRM (longer payoff) than an Alabama investor since properties are far more pricey. In a cash flow-heavy market like Upstate New York, an average GRM may be around 3 years, while an appreciation-heavy market like Raleigh, North Carolina could have an average GRM of 15 years.
When to Use a Gross Rent Multiplier in Real Estate
Typically the gross rent multiplier is used after you’ve decided on the best state to buy a rental property and how to find investment properties. The gross rent multiplier calculation should always be used as a screening metric. That means you’re only using it to quickly get a pulse check on a potential investment property. If you calculate GRM on an investment property you’re looking at, and the final number is close to your preferred GRM, then you should move forward. If the GRM is far higher than what you’d expect from that property, it may be a good sign to look elsewhere.
Limitations of Gross Rent Multiplier
As we’ve mentioned, the GRM is a screening metric, not a valuation metric. This means that while it can be used to estimate the value of a property, there are limitations to its usefulness:
- GRM does NOT include expenses
- GRM only looks at revenue, not profits of a property
- GRM doesn’t account for appreciation (which is a HUGE wealth builder in real estate)
- GRM doesn’t account for neighborhoods, safety, school districts, demand, etc.
- GRM is still somewhat inaccurate, as you will NEVER be able to use ALL the gross rents to pay off a property.
Use Gross Rent Multiplier as Your “Sniff Test”
When you’re conducting a rental property analysis, use the gross rent multiplier as a “sniff test” for whether or not it’s worth your time. Remember, GRM should be used as a screening metric, allowing you to quickly analyze the potential of a property. If the initial numbers give you enough hope that the property could produce enough rent to turn a profit, then it’s time to go onto bigger and better metrics like cash-on-cash return, NOI, equity growth potential, cap rate, and more which you can calculate yourself or use a deal analysis tool like DealCheck to do the heavy lifting for you.
