Owning rental property isn’t for the weak of heart. Owning rental property requires organization and savvy about marketing, sales, customer service, and ROI. ROI (Return on Investment) is what you earn as a percentage of the initial investment cost of the investment, i.e., property. Our ROI Calculator can help.
If you’re a rental property owner, then your ability to run your business (your investment) in a way that makes it a positive asset for you and your family requires an understanding of business and mainly calculating the property’s financial worth.
Keep reading to learn about ROI, what it is, understand why it matters, and how to use our Rental Property ROI calculator to help you master the operations and investment of your asset.
What is ROI?
What is ROI? ROI stands for Return on Investment and is a measure of overall wealth gained. In real estate, ROI gives you a snapshot of how much money you’d gain if you sold it based on your purchase cost. However, many experts believe that ROI is only meaningful if you intend to sell at some point.
An ROI calculator is most valuable as a tool of comparison. For example, you might be asking yourself, “How well is my real estate performing compared to my other investments, or how is my property doing this year v. last year?”
An ROI calculator allows you to enter all relevant information to establish your property’s Return on investment. The calculator includes your property value, the down payment you made, closing costs, and the amount of any improvements.
You can add your annual interest rate, the term of your loan in years, and even your vacancy rate. It also gives you places to put your expenses such as property taxes, insurance, utilities, repairs and maintenance, management fees, and other miscellaneous costs.
Why Does ROI Matter?
There are a few reasons to care about ROI:
- Understanding (and knowing how to calculate) ROI helps you determine where and how to invest in producing a positive return.
- If you’re borrowing money to make your property investment, being able to calculate ROI will help you justify the loan if your ROI generates enough revenue.
- Calculating ROI is beneficial when choosing what investments to make in your property to affect your bottom line best.
And here are some ways you can consider investing in and improving your rental property after you’ve calculated ROI:
- Replacing the roof
- Installing better windows
- Replacing flooring
- Upgrading plumbing
- Installing better counters
The ability to calculate ROI on your rental property is critical, almost an essential aspect of investment and ownership.
Knowing your ROI is the only way for an investor, you, or someone you’re looking to buy your asset to determine how much profit is possible on your property. In addition, ROI is the best way to evaluate the viability of purchasing a rental property, investing in upgrades to a rental property, or selling a rental property.
ROI Calculation Formula
The overall formula for calculating profit or gain on an investment is
ROI = Gain on Investment – Cost of Investment
Cost of Investment
What this means is to
- Take the total return on the investment in your property, then subtract the original cost of the investment.
- Take the net profit, also known as a net gain, and divide it by the original cost.
Here’s an example of the above formula using real numbers:
- You buy Property A for $1000
- You sell Property A for $1500 five years later
- Your net profit is $500 ($1500 – $1000)
- Your ROI on the stock is 50% ($500 (net profit)÷$1000 (cost) = .50 or 50%
While the above can be considered straightforward, there are variables in real estate that come into play when calculating ROI that make the calculation more complicated.
Some of these variables include repairs, ongoing maintenance expenses, the amount of money you borrowed or are considering borrowing to make the initial investment, the mortgage rate, your loan term, and rent payments received. All of these must be calculated into the Rental Property ROI.
When looking at the complexity of this calculation, it makes sense to use tools already built by the experts so you can get to your ROI and manage your property.
When Should I Use an ROI Calculator?
As an investor in rental property, you can use the ROI calculations to analyze deals or evaluate your existing rental properties. This can bring insight into the potential or current profits of your property. It can also help you avoid costly mistakes when considering investing and can help you evaluate your existing properties to make operational decisions or even consider selling.
A Final Thought
Owning a rental property can be a great experience. You have the opportunity of giving people shelter and safety while possibly improving your financial situation. Why not do all you can to make it the investment of your lifetime by understanding the financials and how they best drive your choices?
It’s as easy to “plug and play.” Give it a try!