In our continuing efforts to assist owners in their real estate investing goals, we are publishing a series of investing terms. As you study the market, you may come across many acronyms. Understanding these terms is important for a solid basis of understanding of real estate concepts. Of course, if you have any questions, please do not hesitate to reach out to one of our agents!

Real Estate Terms Part I: Deciding to Buy

Appraisal: The value of a property determined by an independent survey conducted by a lender based on the property’s condition and comparable listings to validate the purchase price

Comparables and comparative market analysis: Part of the appraisal process that identifies recent sales of similar homes (comparables) close in proximity to estimate a more precise value for the property in question

Building classifications: A way of determining the value, risk, and profitability of investment property based on its market value

Class A Properties:

  • The most in-demand properties in the best condition/location with the most appealing features
  • Usually new (under 10 years old) and/or luxury housing
  • Lowest cap rate, highest assessed value, lowest risk, high rents, low ROI and yield

Class B Properties:

  • Second tier to Class A properties—they’re in demand and in good locations
  • Buildings are a little older (10-25 years old), yet not in need of significant maintenance
  • Lower cap rate, higher assessed value, low risk, moderate-high rent, moderate ROI and yield

Class C Properties:

  • Properties in less desirable locations
  • Over 25 years old in need of general renovation (appliances are likely original)
  • high cap rate, lower assessed value, moderate risk, low-moderate rent, moderate ROI yield (after the renovation costs)

Class D Properties:

  • Properties in more fringe or mediocre locations with poor construction
  • Over 30 years old in need of significant rehabilitation or system replacements
  • Highest cap rate, lowest assessed value, high risk, low rents, high ROI and yield

Class A and Class B assets in major markets are the lowest risk, which means lenders are more generous with better financing options, lower rates, better terms and amortization, and lower debt service coverage requirements. Class C and D assets are higher risk, so lenders are more conservative and typically give you fewer financing options, high rates, and less ideal terms. Essentially, the higher the property class, the more expensive and desirable the property, and the lower the return. The lower the property class, the less expensive and perhaps less desirable the property, which means higher risk as well as an opportunity for a higher return. For property investors just starting out, Class B and Class C properties are a good place to start to strike a solid balance between risk and return.

Acquisition cost: The total price, including all fees (mortgage, closing costs, inspection fees, etc.) required to purchase an investment property

Inspection contingency: A term in the purchase agreement that grants the buyer to conduct an inspection of the home through the hire of an independent inspector, receive an inspection report about the property’s condition and issues, and negotiate costs with the seller or terminate the purchase agreement based on the content in the report and get the deposit returned

Turnkey (also turn key) property: A property that does not require any repairs or renovations to rent out to tenants—it is updated to current market standards

Rehabilitation: The repairs that need to be completed on an investment property to make it tenant-ready or ready for resale at a higher value, which can range from minor work such as repainting or installing upgraded fixtures to large-scale renovations such as replacing a roof or gutting a kitchen; the investor should be notified of necessary repairs prior to purchase, and are typically listed in the inspection report

Loan-to-value ratio (LTV): Ratio lenders use to measure the amount of the loan compared to the value of the property and to determine overall risk

LTV = Mortgage amount ÷ appraised property value (or sale price)

Lenders prefer lower LTVs and incentivize higher down payments by offering lower interest rates. Buyers with lower LTVs are considered low risk. However, buyers with low net operating income (to be defined below) are considered high risk and are assigned a high LTV.

Dollars per square foot ($/SF): A way buyers can compare properties of different sizes to one another after factoring in acquisition costs, loan costs, and operational costs