What is Overall Rate of Return (OAR)?
The Overall Rate of Return (OAR) is the percentage relationship between the Net Operating Income (NOI) and the purchase price of a property. It is a vital metric for real estate investors to understand the profitability of their investments.
Why OAR Matters
Understanding OAR helps investors make informed decisions, ensuring that their investment provides optimal returns. A higher OAR indicates a more profitable investment.
Calculating OAR: A Simplified Example
To better illustrate how OAR works, let’s dive into an example:
Imagine you are eyeing a property worth $1,200,000, expected to generate an annual net operating income of $120,000. How would you determine the OAR?
Using the OAR formula:
OAR = (Net Operating Income) / (Purchase Price)
Plug in the values:
OAR = $120,000 / $1,200,000
The result is:
OAR = 0.10 or 10%
In this scenario, the overall rate of return is 10%, indicating a fairly profitable investment.
Real World Application
OAR can vary depending on multiple factors like the property’s location, market trends, and more. An OAR of 10% in one market may not hold the same value in another. Therefore, it’s important to compare OAR against industry standards and market conditions.
Increasing Your OAR
To maximize your OAR, consider the following strategies:
- Increase Net Operating Income: Enhance rental income or find ways to reduce operating expenses.
- Negotiate the Purchase Price: Obtain a good deal on the purchase price to improve your OAR.
- Choose High-Value Properties: Invest in properties that appreciate well over time.
Frequently Asked Questions
- What is a good OAR?
- A good OAR varies by market and property type, but generally, a higher OAR indicates a better return on investment.
- How can I improve my OAR?
- You can improve OAR by either increasing net operating income or by negotiating a lower purchase price.
- Is OAR the same as Capitalization Rate?
- Essentially, OAR is similar to the capitalization rate, though some may use different formulas depending on specific criteria.
Examples
Example 1
- Property Value: $800,000
- Net Operating Income: $80,000
- OAR Calculation:
OAR = $80,000 / $800,000 = 0.10 or 10%
Example 2
- Property Value: $900,000
- Net Operating Income: $75,000
- OAR Calculation:
OAR = $75,000 / $900,000 = 0.0833 or 8.33%
Comparing these examples, it’s evident that a property with an OAR of 10% could be considered more profitable than one with 8.33%, but other factors should also play a role in your decision-making process.
Related Terms: Capitalization Rate, Net Operating Income, ROI, Property Investment.
