Income Approach

The income approach is the appraisal method that values property by the income it produces. It has three families: gross income multipliers, direct capitalization of net operating income, and discounted cash flow. Gross rent multiplier is the first and simplest, value equals annual gross rent times a market multiplier.

The three methods trade accuracy for effort. A multiplier needs rent and a market GRM from comparable sales. Direct capitalization needs a full net operating income and a market cap rate. Discounted cash flow needs a multi-year forecast and a discount rate.

Appraisers use the gross rent multiplier on one to four unit rentals, where Fannie Mae's small residential income form includes a GRM analysis, and lean on direct capitalization and DCF for larger property. For an investor, the same order applies: GRM to screen, cap rate to price, DCF or IRR to decide between deals with different growth or exit assumptions.

Further reading: Income Approach on Wikipedia.