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22Jan2015
Gross & Net Returns
The investor's task is to judge the estimated profitability of the property investment by assuming that the buyer's requested price will be paid:
We calculate the ratio of gross and net return using the formula below:
Gross return = Rent / Purchase Price
Net return = Net profit / Personal equity
Return calculation
| Purchase price of the property | CHF 7,500,000 | |
| Mortgage loan | CHF 6,000,000 | |
| Invested personal equity | CHF 1,500,000 | |
| Annual rental state | CHF 450,000 | |
| Gross return | CHF 450,000 / CHF 7,500,000 = | 6 % |
| Operating costs | 20 % de l'état locatif = | CHF 90'000 |
| Profit before interest and taxes | rental state - operating costs = | CHF 360,000 |
| Interest | 2.5 % * CHF 6,000,000 = | CHF 150,000 |
| Profit before taxes | CHF 360,000 - CHF 150,000 = | CHF 210,000 |
| Net return before taxes | CHF 210,000 / CHF 1,500,000 = | 14 % |
| Taxes | Marginal tax rate of 40 % = | CHF 84,000 |
| Net profit | CHF 210,000 - CHF 84,000 = | CHF 126,000 |
| Net return after taxes | CHF 126,000 / CHF 1,500,000 = | 8.4 % |
This is a gross return of 6% for a net return of 8.4%. We can conclude at this point that using the gross return result, a very simple calculation, does not provide a real basis to make an investment decision.
The amount of the mortgage loan is therefore considered capital in the investment decision, in order to be able to better understand the financial risks that will increase the volatility of operating cash flows.
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- Depreciating cost or intrinsic value method
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