Real Estate Analysis What Is a Good Return on Real Estate Investment? by Daniela Andreevska March 25, 2017January 31, 2019 by Daniela Andreevska March 25, 2017January 31, 2019 Every real estate investor is looking for one and the same thing – profit. Making money is the main – if not the sole – purpose of the real estate investing business. And in real estate you make money by getting good return on your investment. Then comes the question – What is a good return on real estate investment? As with many other crucially important questions in this field, this one has no straightforward answer. The easiest – and arguably most accurate way – to answer the question “What is a good return on real estate investment?” is “It depends.” But this is really useless for a serious investor, right? Then let’s look at some of the possible answers to this question. How Do You Measure Return on Real Estate Investment? Another major question in real estate investing with no single, clear answer is: What is return on real estate investment? Basically, similar to any other type of investment, here you are trying to measure how much money you will be making from your income property, factoring in the size of your initial investment and any other one-time or recurrent costs. Measuring profitability in real estate is different from measuring profitability in stock investments, let’s say, because of the different nature of the two businesses. There are 3 most widely used methods for calculating return in the world of real estate investments. Note: Use Mashvisor and find investment properties with the highest returns! (25% discount) Related: How to Value an Investment Property 3 Ways to Measure Return on Real Estate Investment 1. Return on Investment (ROI) Many investors and other real estate experts would argue that ROI is the single most important number when it comes to return on real estate investment. The ROI is a measure which is used to evaluate the efficiency, or profitability, of an investment. It gauges the amount of return on a certain investment (i.e., the rental income in case of real estate) relative to the investment’s cost. Formula: ROI = Annual rental income/Total cash investment But things are always easier when you look at an example, so let’s do that. Example: You buy an investment property for $400,000 and pay another $15,000 in closing fees, rehab costs, etc. Then you charge a monthly rent of $2,500. What is the ROI for this income property? ROI = 12 x $2,500/($400,000 + $15,000) = 7.2% So, we come back to the question: What is a good return on real estate investment in terms of ROI? Different investors and experts will give you different answers. It depends on the size of the investment property, the location, and the risk associated with this investment as well as the principles of each investor. While some investors will be perfectly happy with a 6% ROI on a safe investment property, others would not go for anything less than 40%, on a riskier property, of course. On average, anything above 15% of ROI is a good return on real estate investment. 2. Capitalization Rate The capitalization rate, or the cap rate for short, is another widely popular metric for measuring return on real estate investment. The cap rate is the rate of return on an income property based on the net operating income (NOI). One huge advantage of the cap rate over other profitability indicators that it shows the rate of return regards of the method of financing. Formula: Cap rate = NOI/Price Once again, it’s best to look at a specific example. Example: You buy an income property for a total of $500,000 and rent it out for $3,200 per month. In addition, the annual costs related to managing your property amount to $6,000. Cap rate = (12 x $3,200 – $6,000)/$500,000 = 6.5% Now the question of “What is a good return on real estate investment?” becomes “What’s a good cap rate for investment properties?” Once again, it is hard to judge as it all depends on the asset type, the property size, the market, and others. But there is a general agreement among investors that good cap rate means anything above 8% and especially above 10%. Related: What’s a good cap rate for investment properties? Once you’ve figured out what is a good return on real estate investment in terms of cap rate, you can use Mashvisor’s investment property calculator, which will provide you with the cap rate for thousands of properties available throughout the US in addition to the cap rate for entire neighborhoods in the hottest US real estate markets. 3. Cash on Cash Return A third widely used metric for determining the profitability of a real estate investment is the cash on cash return, or the CoC return. Unlike the cap rate, the CoC return varies with the method of financing, as you will see in the formula in a bit. The CoC return measures the annual return on your investment based on the NOI and the total cash investment. Related: What Is a Good Cash on Cash Return? Formula: CoC return = NOI/Total cash investment To make things simpler, let’s have an example. Example: You purchase a rental property worth $350,000 through a mortgage, with a down payment (cash payment) of 20%, or $70,000. You are able to charge your tenants $1,800 per month, and your annual expenses associated with the property add up to $4,000. CoC return = (12 x $1,800 – $4,000)/$70,000 = 25.1% However, let’s look at the same property which you buy fully in cash. CoC return = (12 x $1,800 – $4,000)/$350,000 = 5.0% As you see, the CoC return changes drastically if you switch to a different financing method. To know what is a good return on real estate investment now we need to know what’s a good cash on cash return for investment properties. Similar to the cap rate, a good CoC return is anything above 8%, but it is better to aim for over 10% or 12%. Now that you know what is a good return on real estate investment with regards to CoC return, you can decide which property is the right for you based on the data computed by Mashvisor’s rental property calculator for numerous properties across the US, divided by traditional and Airbnb rental strategy. Note: The properties with the highest returns are all here! Claim your discount and start searching. As mentioned a couple of times above, what is a good return on real estate investment depends on the characteristics of the actual property and the local market. For instance, you should expect a higher return from a large, luxurious income property because it is riskier – it might take months to find tenants due to the higher monthly rent. Similarly, you should aim for higher return in less secure neighborhoods, which might attract tenants more likely to damage your income property or not pay rent regularly. So, while it is all subjective, above are some general guidelines about the minimum ROI, cap rate, and CoC return you should expect from a rental property before you decide to buy it. Together, these numbers give you an answer to the question “What is a good return on real estate investment?” Start Your Investment Property Search! START FREE TRIAL Start Your Investment Property Search! START FREE TRIAL Cap RateCash on Cash ReturnReturn on Investment 1 FacebookTwitterGoogle +PinterestLinkedin Daniela Andreevska Daniela is Marketing Director at Mashvisor. She has been writing about real estate investing for a number of years. Previously, she worked in economic policy research and fundraising. Daniela holds a Master degree in Middle East and Mediterranean Studies from King’s College London. 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