Whether you're investing for retirement, building long-term wealth, or generating cash flow, one metric should always guide your decision: return on investment (ROI). It tells you how profitable a rental property is, plain and simple.
But calculating ROI in real estate isn’t always straightforward. Variables like mortgage terms, maintenance costs, and equity growth can complicate the math. In this guide, we’ll break down the ROI calculation process step by step, explain what makes a “good” ROI, and show you how to optimize it using real-world strategies and examples.
Overview
ROI (Return on Investment) helps you measure how profitable a rental property is by comparing your earnings to your total costs. Whether you buy with cash or use financing, calculating ROI involves tracking income, expenses, and equity. This guide breaks down formulas, real-world examples, and tips to improve your rental returns.
What Is ROI in Rental Property Investing?
Return on Investment (ROI) is the percentage of profit you earn from a rental property compared to how much you’ve invested. It helps measure how efficiently your money is working for you. In real estate, ROI includes more than just rent—it also factors in expenses, loan costs, and long-term equity.
Why Does ROI Matter in Real Estate?
Understanding ROI isn’t just about crunching numbers—it’s about using those numbers to make smarter investment decisions. Here’s why ROI should be a core part of every rental property analysis:
- Evaluate, Profitability Before You Buy: ROI lets you estimate how much return you’ll get from a property before making a purchase. This helps you filter out poor-performing deals and focus on assets that can deliver long-term value.
- Compares Multiple Properties with One Metric: When reviewing several listings, ROI gives you a simple, apples-to-apples comparison. Whether the properties are in the same city or across different states, ROI helps you rank them based on return potential.
- Guides Hold vs Sell Decisions: ROI helps you assess whether it’s better to keep a property or sell it. If your return drops due to rising costs or declining rent, a low ROI might signal it’s time to cash out and reinvest elsewhere.
- Highlights Operational Weaknesses: A declining ROI can reveal problems like high turnover, growing expenses, or inefficient property management. By tracking ROI, you can spot issues early and take corrective action.
- Supports Financing and Refinancing Plans: Lenders and financial advisors often consider ROI when approving investment loans or refinancing. A strong ROI can strengthen your application and improve your borrowing terms.
Core ROI Calculation Methods for Rental Properties
Calculating ROI isn’t one-size-fits-all. Depending on whether you’re buying with cash, using financing, or focusing on income versus equity growth, different methods apply. Below are the three most commonly used ROI formulas in rental property investing—each offering unique insights into a property’s performance.
Method 1: Simple ROI Formula
This is the most straightforward way to evaluate rental property performance. It measures how much return you’re earning compared to your total investment. While it doesn’t account for financing or equity growth, it’s useful for quick assessments, especially in all-cash deals or when you want a clear snapshot of overall profitability.
Formula:
Best Used For:
Cash purchases or when you want a fast, general snapshot of property performance.
Method 2: Capitalization Rate (Cap Rate)
Cap rate focuses on property income versus value, making it useful when comparing properties in the same market. It excludes financing, so the result purely reflects property performance. A higher cap rate generally means better return, but it can also signal higher risk depending on the neighborhood or tenant quality.
Formula:
Best Used For:
Comparing similar rental properties or assessing income-generating potential regardless of financing.
Method 3: Cash-on-Cash Return
This method evaluates the annual cash return based on how much actual cash you’ve invested, including your down payment, closing costs, and renovation expenses. It’s especially helpful for financed properties, as it gives a clearer view of cash flow relative to your initial out-of-pocket spending.
Formula:
Best Used For:
Financed properties or investors who want to track actual returns on cash deployed.
Step-by-Step ROI Calculation (With Examples)
Understanding ROI formulas is one thing—knowing how to apply them is another. Here’s a practical walkthrough of calculating ROI on a rental property, covering each major step from income to investment, with real-life examples for both cash and financed purchases.
Step 1: Calculate Gross Rental Income
Start by estimating your expected rental income for the year. Include rent from tenants, pet fees, parking, and any additional services. If the unit won’t be rented full-time, factor in projected vacancy rates.
Example:
Monthly rent = $1,250
Annual gross income = $1,250 × 12 = $15,000
Step 2: Subtract Operating Expenses
Deduct all costs required to run the property. This includes maintenance, insurance, property taxes, utilities (if paid by the owner), and property management fees. Exclude mortgage payments here—you’ll factor those in separately if needed.
Example:
Annual expenses = $3,600 (taxes, insurance, maintenance)
Net Operating Income (NOI) = $15,000 – $3,600 = $11,400
Step 3: Factor In Financing (If Applicable)
If you financed the property, subtract your annual mortgage payments from your NOI to determine your true cash flow. Include only interest and principal here—other expenses should have been captured in Step 2.
Example (Financed Deal):
Annual mortgage = $5,153.52
Annual cash flow = $11,400 – $5,153.52 = $6,246.48
Step 4: Add Renovation and Closing Costs
When calculating your total investment, include all one-time costs like closing fees, remodeling, or legal services. This gives you a more accurate base investment figure for ROI calculations.
Example:
Down payment = $25,000
Closing + remodeling = $14,250
Total cash invested = $39,250
Step 5: Apply the Right ROI Formula
Now plug in the numbers. If you bought the property with cash, use the Simple ROI or Cap Rate method. If you financed it, the Cash-on-Cash Return is more appropriate.
Example (Cash-on-Cash Return):
Annual cash flow = $6,246.48
Total cash invested = $39,250
ROI = ($6,246.48 ÷ $39,250) × 100 = 15.9%
Step 6 (Optional): Add Equity Gains to ROI
If you want a more complete view, factor in how much mortgage principal you’ve paid down in year one. This helps reflect long-term gains.
Example:
Principal paid down = $3,300
Total ROI = (($6,246.48 + $3,300) ÷ $39,250) × 100 = 24.1%
What’s Considered a “Good” ROI for Rental Properties?
There’s no single answer to what makes a “good” ROI—it depends on your investment goals, market conditions, and level of risk tolerance. Still, experienced investors generally follow a few benchmarks to determine if a rental property is worth the money.
Industry Benchmarks
Most real estate professionals consider an ROI between 8% and 12% to be healthy for long-term rentals. Anything above 12% is considered strong and worth exploring further. If the ROI falls below 6%, it often signals that the property may not generate enough returns to justify the investment, especially once unexpected costs kick in.
Compared to Other Investments
Rental property returns should also be weighed against other options like REITs, index funds, or treasury bonds. For example, if the average stock market return is 7% annually, and your property earns 10%, you’re outperforming with added benefits like equity and tax deductions. However, don’t forget to account for the additional effort and liquidity risk real estate involves.
Risk vs. Reward Balance
Higher ROI properties may come with higher risk. A property with a 15% projected ROI might be in an up-and-coming neighborhood or require significant rehab. In contrast, a turnkey unit in a stable location might offer a lower ROI but come with less hassle and more predictable returns.
ROI Expectations by Strategy
- Buy and Hold: 8–10% is generally solid for long-term wealth-building
- BRRRR Method: Can exceed 15% after refinancing, but the risk is higher
- Short-Term Rentals: Often target 10–20% ROI but come with seasonal volatility and management intensity
Key Rules of Thumb to Quickly Estimate ROI
Before diving into spreadsheets and formulas, many investors use simple rules of thumb to screen rental properties. These shortcuts won’t give you an exact ROI, but they offer a fast way to judge whether a property is worth deeper analysis.
The 1% Rule
This rule states that a rental property should generate at least 1% of the purchase price in monthly rent.
For example, if you buy a property for $200,000, it should rent for at least $2,000 per month. This ensures that the property produces enough income to cover expenses, debt service, and still offers positive cash flow.
Why Does It Matter?
The 1% rule is a quick tool for identifying high-income-producing properties. If a property falls significantly below this threshold, it might have weak cash flow unless it’s in a high-appreciation market.
Limitations:
It doesn’t consider operating expenses, taxes, or financing costs. In expensive markets (e.g., coastal cities), even well-performing properties may not meet this rule.
The 2% Rule
A stricter version of the 1% rule, the 2% rule suggests your monthly rent should be 2% of the property’s purchase price.
If a property costs $100,000, it should ideally rent for $2,000 per month to meet this benchmark. This rule targets ultra-high-cash-flow markets where properties are cheap and rents are strong, often found in certain Midwest or Southern cities.
Why Does It Matter?
The 2% rule can identify cash cows with very high income potential. It’s often used by BRRRR (Buy, Rehab, Rent, Refinance, Repeat) investors who want to maximize returns quickly.
Limitations:
Very few properties meet this rule in appreciating urban areas. Also, high rental yields may come with higher tenant risk, maintenance issues, or less stable neighborhoods.
The 50% Rule
The 50% rule suggests that half of your gross rental income will go toward operating expenses, Matterexcluding mortgage payments.
For instance, if you earn $1,800 per month in rent, plan for about $900 per month in expenses like property taxes, insurance, repairs, utilities, and management fees. This leaves the other 50% to cover mortgage costs and profit.
Why Does It Matter?
This rule offers a conservative buffer for operating expenses and helps avoid underestimating costs. It’s particularly useful for quick cash flow estimates before full due diligence.
Limitations:
Actual expenses vary based on location, property type, and management style. Newer properties or self-managed units may cost less than 50%; older buildings or fully outsourced operations may cost more.
When to Use These Rules?
These rules are great for:
- Fast analysis while browsing listings
- Comparing multiple deals at once
- Setting initial filters in real estate search tools
But they should never replace full ROI calculations. Use them to shortlist candidates, then follow up with detailed financial modeling based on your investment strategy.
Factors That Affect ROI Accuracy
Even if you follow the right formula, your ROI can be off if key variables are overlooked. ROI isn’t just about the numbers—it’s about how real-world factors change your expected returns. Here are the most common elements that can impact how accurate your ROI calculation really is:
Property Condition and Age
Older properties often come with more maintenance issues, from outdated plumbing to roof replacements. These unexpected costs reduce your net operating income and shrink your ROI. Newer properties may cost more upfront, but often save money in operating expenses during the early years.
Vacancy Rates and Tenant Turnover
Every month your unit sits empty, you’re losing money. High vacancy or frequent tenant turnover means you’re not only missing rent but also paying for cleaning, repairs, and marketing. These costs add up quickly and distort your annual return if not properly factored in.
Financing and Leverage
Using a mortgage can either boost or reduce ROI. Leverage increases returns when rents are strong and costs are stable. But interest payments, lender fees, and potential refinancing costs can eat into cash flow if not monitored. If financing terms change, so will your ROI.
Location and Local Market Trends
A property’s location plays a huge role in ROI. Desirable neighborhoods may have lower rental yields but appreciate faster. Areas with job growth, school zones, or transit access tend to maintain strong demand. Poor location choices can result in low rent, high vacancies, and higher risk.
Unexpected Expenses and Capital Expenditures (CapEx)
ROI is often overestimated because investors forget to include major repairs, like HVAC systems, water heaters, or foundation issues. CapEx can dramatically reduce profitability, especially when multiple issues occur in a short time. It’s important to budget 1–2% of the property’s value each year for reserves.
Cash vs Financed Purchases: ROI Breakdown
The way you finance a rental property has a big impact on your return on investment. Buying with cash and financing both come with trade-offs that affect ROI, cash flow, and overall risk. Understanding the difference helps you choose the strategy that best fits your goals.
Benefits of Paying Cash
Paying all cash for a property eliminates monthly mortgage payments, which typically means stronger cash flow from the start. The ROI calculation is also simpler since there are fewer variables to account for. It’s also easier to close deals faster and negotiate better terms with sellers when you’re a cash buyer.
However, ROI tends to be lower with cash deals because the total investment is higher. Your returns may be more stable, but they grow more slowly without the boost of leverage.
Benefits of Financing with a Mortgage
Using leverage through a mortgage allows you to control a more valuable asset with less upfront capital. Because your total cash invested is lower, the cash-on-cash ROI often looks higher, especially in high-rent markets.
Financing also frees up funds for renovations or additional investments, helping you build a portfolio faster. Plus, mortgage interest is tax-deductible, which can boost net returns.
Risks Associated With Financing
Despite the upside, mortgages come with their own risks. Monthly payments add pressure to maintain consistent rental income. If your tenant leaves or the market rent drops, you still owe the bank. Interest costs and lending fees reduce your net profit. And if the market turns, you could end up with negative equity.
Experts often recommend following the 28/36 rule—keeping mortgage payments under 28% of your gross income and total debt under 36%—to stay within safe limits.
How to Improve ROI on Your Rental Property?
Improving your ROI isn’t just about finding the perfect property—it’s about actively managing your investment over time. From renovations to smarter tenant screening, small decisions can lead to better cash flow and stronger long-term returns. Here’s how to elevate your ROI strategically:
Strategic Renovations
Target upgrades that add value without overextending your budget. Focus on high-ROI areas like kitchens, bathrooms, or curb appeal. Even small touches—like adding smart thermostats or modern fixtures—can justify higher rent and attract better tenants.
Avoid over-renovating the neighborhood. Improvements should align with local expectations and rental rates.
Rent Increases Through Market Review
Many landlords underprice rent by failing to keep up with local market trends. Review comparable listings every 6–12 months. If your property is significantly under market rate and tenant demand is high, you may be able to raise rent without affecting occupancy.
Always follow local laws on rent increases and provide proper notice to avoid legal or reputational issues.
Better Property Management
Whether you manage the property yourself or hire help, efficient property management makes a big difference. Quick repairs, strong communication, and clear policies reduce vacancy rates and improve tenant retention, both critical to maintaining stable income and ROI.
Investing in property management software can automate rent collection, reminders, and maintenance logs to streamline your operations.
Tax Deductions and Efficiency
Real estate comes with tax benefits, but only if you track them. Deductible expenses include mortgage interest, property taxes, insurance, repairs, and even depreciation. Consulting a tax professional or using accounting software can ensure you capture every allowable deduction.
Maximizing these write-offs reduces your taxable income and effectively increases your after-tax ROI.
Preventative Maintenance
Don’t wait for things to break. Schedule regular inspections and service visits for HVAC, plumbing, and roofing systems. Preventative care helps avoid expensive emergencies, keeps tenants happy, and preserves your property’s value—all of which support better ROI over time.
Final Thoughts
Calculating ROI is one of the most important steps in evaluating a rental property. Whether you’re paying in cash or using financing, ROI gives you the clarity to measure profits, assess risk, and plan for the future.
If you're serious about building a profitable rental portfolio, start by calculating ROI consistently and using it to guide every buying, selling, or holding decision. And for a deeper dive into profitability, check out ZeroFlux Newsletter.
FAQs
How Do I Calculate ROI on a Rental Property With a Mortgage?
To calculate ROI with a mortgage, subtract annual expenses and loan payments from rental income to get net profit. Then, divide that by your total cash invested (down payment, closing costs, renovations) and multiply by 100. This gives you the cash-on-cash return on your investment.
What Expenses Should I Include When Calculating ROI?
Include all recurring operating expenses like property taxes, insurance, maintenance, utilities (if applicable), and management fees. For a financed property, include mortgage payments separately. Also, account for one-time costs like closing fees and renovations to ensure your ROI reflects the full investment and operational impact.
Can I Use ROI to Compare Properties in Different Cities?
Yes, ROI can help you compare properties across markets by showing relative profitability. However, you should also consider local risks, vacancy rates, and appreciation trends. A property with high ROI in one city may still be less stable than a lower ROI property in a stronger market.
Is Cash-On-Cash Return the Same as ROI?
No. Cash-on-cash return focuses only on the income earned relative to the actual cash you invested. ROI takes a broader view, often including appreciation, equity, and total investment. Cash-on-cash is ideal for measuring short-term performance, while ROI offers a more complete long-term picture.
How Often Should I Recalculate ROI on My Property?
It’s smart to review ROI annually or after any major financial change, like a rent adjustment, refinance, or renovation. Regular tracking helps you catch declining performance early and identify new opportunities to improve returns or decide whether it’s time to sell or reinvest.