Real estate will likely be one of the largest investments in your portfolio. High risk can lead to high reward—but only if you put in the time and research to understand your market and the numbers behind your investment. Good investments require analysis, and you should have a solid understanding going into any real estate deal of what you can expect from your investment’s return.
Setting unrealistic expectations for your return on investment (ROI) can set you up for failure and hurt your profit. Most real estate investment strategies tie up large chunks of money for quite some time, so you need to weigh the pros and cons between committing for the long haul or finding a property to flip. Setting realistic expectations for property value and cash flow will ensure your investment turns out to be a great deal.
How to Determine Profitability of Real Estate Investments
There are several commonly used methods to calculate the return on your real estate investment and help you keep your property profitable over time.
Return on Investment (ROI)
Many experts and successful investors consider ROI to be the most crucial factor to consider when it comes to evaluating the profitability of a real estate investment. There is no across-the-board number for a “good” ROI, but on average, it is recommended to aim for an ROI above 15%. You have to consider factors like your investment goal, property location, and size.
Here’s an example. You purchase a rental property for $400,000 and pay an additional $20,000 in closing fees and maintenance/repair costs. When the property is ready to hit the market, you charge your tenants $2,500 per month.
If you divide your income by your expenses, your yearly ROI would be just over 7%. Whether 7% is a “good” or “bad” number is completely dependent on your specific financial situation and the property in which you’ve chosen to invest.
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