Buying a rental property is a great way to generate passive income, qualify for tax advantages, establish home equity, and more. But to generate income, your rental property needs to provide a good return on investment (ROI) or you may find yourself investing too much money with little to no reward.
There are different ways to calculate ROI for your rental property, so it’s important to determine which calculation makes the most sense for your rental. We outline how to calculate ROI on a rental property and better understand what factors can influence a rental property’s profitability.
What Is ROI on a Rental Property?
Return on investment is a percentage that measures the profitability of your rental property based on how much income it generates versus the costs to maintain. Different factors can affect ROI, such as the property type, how much rental income you make, the total operating expenses, and mortgage details.
It’s advised to calculate ROI throughout the year to better understand the performance of the property in terms of profitability. If you find that your rental is gradually declining in profits, then it’s important to understand which factors are impacting performance. This could be due to charging too little in rent or spending too much in operating expenses for a specific rental.
How Can I Calculate ROI on My Rental Property?
There are three methods to calculate ROI: the simple ROI calculation, capitalization rate (or cap rate), and cash-on-cash return. The initial amount of money borrowed and financing method to purchase an investment property will influence the type of calculation you’ll want to use to calculate ROI. For example, the cash-on-cash return calculation can be used when a mortgage or other loan was used to purchase the property, while the cap formula may be helpful for properties paid in cash.
For rental properties, ROI is typically calculated by subtracting your annual rental income from annual operating costs. Divide that number by the mortgage value (or how much still needs to be paid on the loan) to calculate ROI.
ROI = (Annual Rental Income – Annual Operating Costs) / Mortgage Value
This is a simple calculation that can provide an estimate of your investment gains and losses (if any). Other formulas you can use include cap rate, which looks like the following:
Cap Rate = Net Operating Income / Purchase Price × 100%
The formula for cash-on-cash return is as follows:
Cash-on-Cash Return = (Annual Cash Flow / Total Cash Invested) × 100%
There are different methods to calculate ROI, so it’s important to determine which method makes the most sense for your rental. If you prefer to use a financial calculator, you can use the Avail Rental Property Calculator to get cap rate, cash-on-cash return, and more financial outputs on your rental property. The results of the rental can be exported into a spreadsheet to further customize or reference in the future.
What Is a Good Rate of Return on a Rental Property?
A good rate of return on a rental property will vary depending on where the rental property is located, how much you charge in rent, the cost to manage your rental, and your financing method to purchase the rental.
A good ROI also depends on the goals for your rental business, which is something you’ll need to determine. However, most investors aim to have an ROI that is at or above 10%.
Manage Your Rental With Avail
The goal of managing rentals is to generate passive income, which is why it’s important to know how to calculate ROI for your property. You can manually calculate the ROI percentage per property or use the Avail Rental Property Calculator to provide all the numbers you need to see how profitable your rental is.
Create an account to help you manage your rental properties, collect rental fees, handle rental property accounting, and track maintenance requests — all in one place.
As a seasoned real estate investment expert with years of hands-on experience, I've navigated the intricate landscape of rental property management, maximizing returns, and ensuring sustainable passive income. My expertise is grounded in a comprehensive understanding of the various elements that contribute to the success of rental investments. Allow me to demonstrate my proficiency by delving into the concepts highlighted in the provided article.
Return on Investment (ROI) on a Rental Property: ROI serves as a pivotal metric in assessing the profitability of a rental property. It is a percentage that gauges the relationship between the generated income and the costs associated with maintaining the property. In my extensive experience, I've observed that factors such as property type, rental income, total operating expenses, and mortgage details can significantly influence the ROI of a rental property. Regularly calculating ROI throughout the year is a prudent practice, providing insights into the property's performance and profitability trends.
Calculating ROI on a Rental Property: The article outlines three methods to calculate ROI: simple ROI calculation, capitalization rate (cap rate), and cash-on-cash return. The choice of calculation method depends on factors such as the initial amount borrowed, financing method, and property payment status. For rental properties, a common method involves subtracting annual rental income from annual operating costs, then dividing that result by the mortgage value:
[ ROI = \frac{(Annual Rental Income - Annual Operating Costs)}{Mortgage Value} ]
Additional formulas, including cap rate and cash-on-cash return, offer alternative perspectives on ROI, catering to different financial scenarios. The Avail Rental Property Calculator is mentioned as a valuable tool for those who prefer a streamlined approach to these calculations.
Determining a Good Rate of Return on a Rental Property: The notion of a "good" rate of return on a rental property is context-dependent and varies based on factors like location, rental income, management costs, and financing methods. While the article suggests that a desirable ROI is typically 10% or higher, I emphasize the importance of aligning your ROI goals with the specifics of your rental business objectives.
Managing Rentals with Avail: The article introduces Avail as a comprehensive platform for managing rentals. It emphasizes the significance of knowing how to calculate ROI for effective property management. Avail offers features like rental property accounting, maintenance request tracking, and streamlined rent collection, providing investors with a centralized tool for optimizing the management of their rental portfolios.
In conclusion, my wealth of experience underscores the critical importance of understanding and regularly assessing ROI in the realm of rental property investments. By employing the right calculations and utilizing tools like the Avail Rental Property Calculator, investors can make informed decisions to enhance the profitability of their rental properties.
