How Do You Calculate ROI in Real Estate?

When you’re buying your dream house, you may not care as much about how good of an investment it is. You aren’t worried about your returns because you’re likely not planning on moving. However, purchasing a real estate investment is different. Whether it’s a single-family home you plan on renting out, a property to fix and flip, or a multifamily real estate syndication project, you’re probably thinking the same thing:

How do you calculate ROI in real estate?

We’ll talk about ways you can understand your return on investment (ROI), different terms you’ll want to know, how to calculate ROI in real estate, and what a “good” return looks like.

How do you calculate ROI in real estate?

In the most basic terms, return on investment (ROI) in real estate is calculated by taking the profit earned on the property and dividing it by the cost of investment to get a percentage.

When you invest in a property, your total cost isn’t just the purchase price. It also includes:

• The price you pay for the property
• Any closing costs (like legal or title fees)
• Upfront renovations or upgrades
• Other startup expenses

Let’s break it down with an example:

• Purchase price: $4,000,000
• Renovations: $500,000
• Total upfront cost: $4,500,000

Let’s say after renovations, your property results in:

• Annual rental income: $600,000
• Annual operating expenses (property management, maintenance, etc.): $100,000

That leaves you with $500,000 in net income each year.

To calculate ROI in real estate:

ROI = (Annual Net Income / Total Investment Cost)

The ROI would be calculated as such:

($500,000 / $4,500,000) = 11.11%

What is a good return on real estate investment?

What is considered a “good” ROI in real estate depends on many different factors. There’s no cut-and-dry answer to this question because property type, market conditions, location, and investment strategies will determine what is good or not.

Generally, an ROI of 10% or higher is considered strong in real estate, as it exceeds the average returns of stocks or bonds. As of December 2024, the 1-year total return for real estate, according to the S&P 500, was 6.55%. The 10-year annualized total return was 6.45%. In our previous example, we would look more closely at the property in question because the return looks promising.

Strong returns can come from undervalued assets, effective renovations, or a great location, but high returns also warrant due diligence to confirm that they’re sustainable and not the result of miscalculated risk.

What are the different ways of understanding how to calculate returns?

Internal Rate of Return (IRR)

The internal rate of return (IRR) considers the time value of money by discounting future cash flows. It can help investors get a feel for the profitability of an investment opportunity by explaining the expected compound annual rate of return from a project. This can provide a very accurate picture of profitability, but it can also be tricky to calculate. To learn more about IRR, check out our blog detailing the concept and calculation.

CoC Returns

While IRR is more future-focused, cash-on-cash returns (CoC) look at the profitability of an investment company by dividing annual cash flow by the total cash invested in the property. This can include gross rent received minus operating expenses, such as maintenance, property taxes, insurance, and payroll. This value can help investors understand how well their property is currently doing and make adjustments to improve cash flow moving forward. This is more of a snapshot of short-term profitability. We talk more about cash-on-cash returns in another blog.

CAP Rate

CAP rate, or capitalization rate, is an incredibly useful metric that investors can use to evaluate the net operating income of a property relative to its value. It’s used frequently in multifamily real estate investing and other commercial real estate analysis, but it’s also an often misunderstood concept. So much so that we hosted a webinar and wrote a blog on the topic.

Other Key Metrics to Know

Beyond ROI, real estate investors often use a few other metrics to get a fuller picture of an investment’s performance:

• Net Present Value: NPV estimates the current value of all expected future cash flows from the investment, discounted to reflect the time value of money. It’s often used alongside IRR to evaluate long-term profitability.
• Profit margin: This tells you how much profit the investment generates from each dollar of income. It’s a quick way to assess how efficiently revenue is being converted into profit.
• Return on equity (ROE): ROE measures the return earned on the equity portion of your investment. It helps you understand how effectively your capital is working to generate profit.
• Debt service coverage ratio (DSCR): DSCR compares a property’s net operating income (NOI) to its debt obligations. A DSCR above 1 means the property generates enough income to cover its loan payments.
• Net operating income (NOI): It’s important to understand the NOI as it is used along with the CAP rate to calculate the value of a property after subtracting operating expenses (but before debt service or taxes). It’s a foundational metric used to evaluate profitability, determine property value via the cap rate, and analyze expense ratios.

What influences a good ROI in real estate?

It can feel risky and overwhelming to start real estate investing alone. So much research, due diligence, and management have to go into every deal. However, investors can limit their risk and level of effort by going in with a group. Real estate syndication can offer ROI at better rates than the stock market with reduced risks compared to going it alone. However, the following factors can also influence real estate ROI:

• Purchase Price: If you buy a property at a lower price or pick up an undervalued property, you can improve ROI by improving your profit margin.
• Rental Income: High-demand areas with high occupancy rates can mean properties are more profitable. Ensure the rent is competitive with other properties in the area.
• Property Appreciation: Up-and-coming locations and improvements made to the property can boost appreciation faster than simply buying and holding real estate.
• Expenses: By keeping operating costs low and property management efficient, owners can improve their ROI.
• Financing: Negotiate to keep interest rates low and work to get beneficial loan terms.
• Tax Advantages: Consult with a tax professional to understand and utilize all available tax benefits.

If you’re looking to improve your ROI and add real estate investing to your portfolio, join our community and learn more about our investment opportunities.