Calculating Return on Investment
If you think you’re ready to purchase a real estate investment property, you want to do an ROI analysis before you move forward. ROI, which stands for return on investment, is a simple calculation. It’s the monthly net profit divided by your monthly expenses. That number is multiplied by 100 to reflect the return on investment as a percentage:
(Net Profit / Cost of Investment ) X 100 = ROI
Though it seems like a simple equation, the real work is in getting the most realistic numbers possible in order to get a true look at your ROI. We hear stories all of the time from beginner investors who buy property based on an incorrect calculation of the ROI. So below we have listed the top 3 mistakes we see people making in their calculations.
Mistake #1: Using Estimates Instead of Actual Numbers
Your ROI calculation should be based on actual numbers because estimations can be hugely misleading. Again, these estimations are good only as guidelines when looking at a potential income property. But when doing an ROI analysis, always use actual numbers to make an educated investment decision.
Mistake #2: Failing to Account for All Expenses
Many times, real estate investors forget to include some important expenses when they’re calculating their ROI. Some commonly forgotten about expenses include vacancies, property taxes, insurance, repairs, capital expenditures and management fees. If you forget to include all expenses, then your math and ROI will not be correct.
Mistake #3: Not Knowing what a Good ROI is:
The truth is that there isn’t a clear-cut answer for figuring out a good ROI for a rental property. That being said, there are some rules of thumb most real estate investors use since certain ROIs may not be worth it. In more specific terms, you’ll want to aim for your rental ROI to be 5% or more since this percentage means that you’ll earn a higher rate of return compared to typical retirement accounts. Getting a 5% to 10% return for rental properties is pretty reasonable. The higher the better, just make you are thorough in your calculations.
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