What is Gross Income Multiplier?
Gross Income Multiplier is used to appraise the value of the property like commercial real estate, apartments for rent, shopping center, etc. and is calculated as the ratio of Current Value of the investment/property to its gross annual income earned.
Gross Income Multiplier Formula
Hence, the gross income multiplier is the ratio of the current value and the annualized income of a property or an investment that is required to be sold off.
- Current Value of the Property – It is the current market price of the property. The owner can either determine thus value on his own by taking the current market and expectations of people, its location factor, etc. into consideration. On the other hand, the owner can also take the price from any other property taking the sales history or rental income of a competitive property into consideration.
- Gross Income of the Property – Gross income of the property includes average annual rent of the apartments or building held for rentals, Average annual turnover of the products held for the trading purpose for manufacturing purpose, etc. Thus it is simply the Income earned or expected to be earned from the property for which deal is being finalized.
Thus it can be said as it is the Fair Market Value of the property.
Example of Gross Income Multiplier
Suppose Mr. X has a house property in a certain location. As per the market conditions and according to the similar properties in the neighboring location the current value of the property is $7 million. Further, it was rented out by him to its tenants which generated an annualized rental income if $1 million. Calculate the gross income multiplier of the house property of Mr. X.
Calculation of Gross Income Multiplier
- = $7 million / $1 million
- = 7 times
Following are various advantages which include the following:
- Because of the simplicity in the calculation of gross income multiplier, it has gained a lot of academic attention while it is also used practically to determine whether a particular property is receiving a good deal.
- It can be related to stock valuation since the ratio of this multiplier is the current value of the property divided by net operating income of the property can be very well connected with the traditional price/earnings ratio. Hence it is based upon commonly used concepts.
- The concept of gross income multiplier is neither old nor much newer concept since it is being used in property and real estate valuation for decades nor hence it has gained a lot of usefulness by so many owners and individuals and is used in their day-to-day valuation over the period of time.
- It is very well relative to the current market and demand-supply conditions since the calculation makes it clear that with the rise in the value of the property in the market the gross income multiplier increases, while with a reduction in the annualized rate of return or income from the property gross income multiplier tends to decrease.
- Since GIM doesn’t take into consideration is operating expenses it is very easy to calculate the gross income multiplier of a property that is already sold out against any other methods like Cap Rate.
The different limitations and drawbacks include the following:
- One of the biggest disadvantages of gross income multiplier is that it does not take into consideration expenses and another related cost into account while calculating the income multiplier. Hence costs like license, cost of utilization, maintenance taxes, etc.
- The vacancy is not taken into consideration under GIM which is an important part of a house property. Thus final multiplier answer may be irrelevant.
- It can only be used for comparison purposes with other property, thus it is a very strong concept in relative terms, and however, it doesn’t gain much importance in Absolute terms.
- This concept is usually used in real estate properties, rental properties, and investments however in other fields like buildings, etc. it does not gain much of the importance.
- It is important to take note that the concept of gross income multiplier has been in use since the era where real estate property is being sold. Hence it has been used since the year 1740 when Thomas Miles showed income multiplier variations.
- Richard Radcliff states that if the concept of GIM is used properly, it can also be used in determining the market value of the property by filling up details in the formula and taking the current market value of the property, variable.
- This is a market-derived concept and hence gains many meanings as it is a market-derived concept that doesn’t change with personal judgments as it is an objective concept as against other subjective concepts.
To determine whether a property is sold at a good deal and as per its current market conditions depending upon its annualized income, Gross income multiplier can be easily applied by anybody without incurring much cost and spending more time. Hence common use and easy application of this concept is a very useful concept.
This has been a guide to Gross Income Multiplier. Here we discuss the formula to calculate gross income multiplier along with a practical example, advantages & disadvantages. You may learn more about accounting from the following articles –