Money in Your Pocket: Calculating Your Own ROI from Your Properties

In today’s Canadian real estate market, is it possible to maximize your investment returns? Gone are the days of easy money floating throughout the national economy thanks to the Bank of Canada’s (BoC) historically low interest rates, fuelling the 2020-2021 housing boom that led to exorbitant residential property valuations. Now that conditions have normalized, investors need to return to the basics to achieve success in these pursuits.

As all investments go, every investor seeks to make the best returns possible. Return on investment (ROI) is an assessment of an investment’s cash flow (how much did you put in, and how much are you getting back in return?). Experienced investors know that calculating the ROI from their properties is vital to determining how well their investments are performing overall.

Despite there being many ways to determine a property’s ROI, calculating the ROI can be as simple as using a fairly standardized formula. The ROI of a property can be equal to its annual profits, determined after its expenses, divided by the cost of the investment.

ROI = net income (gross income – costs) ÷ costs

For example, a property may have cost $50,000 to acquire. This property generates a profit of $6,000 per year, minus all of its yearly expenses. As a result, the ROI of this property is 12 percent. In short, one of the ways of calculating the ROI of a property is to divide the property’s net income by the amount invested in the property.

However, determining the ROI of a property involves calculating both the income and cost of the investment. To do this, you need to consider a number of different financial factors that contribute to a property’s ROI.

What Factors Affect the ROI of a Real Estate Investment?

• Debt (mortgage or loans)
• Interest rates
• Tax and insurance
• Maintenance and rehabilitation
• Equity
• Rental income

Indeed, interest rates have played a greater role in ROI these days since they are at their highest levels in nearly 20 years. But while the rising-rate climate is impacting gains – or exacerbating losses – investors will need to anticipate fluctuations in this area over the coming months or years. On the one hand, the Bank of Canada (BoC) has signalled an environment of higher for longer rates. On the other, the futures market is pencilling in rate cuts as early as spring 2024.

Debt

To calculate the ROI of your properties, you first have to determine the total cost of your investment. While some investors may have paid out-of-pocket when purchasing a property, others may have received financial assistance in the form of mortgages and loans.

One of the most significant costs of a property investment is any debt paid or to be paid throughout the course of your investment. Be it a monthly mortgage payment or loan; these financial expenses are crucial to calculating your ROI since these payments are deducted from your property’s gross income to determine the net income.

Things like the amount that the bank has provided you, the term of the loan, and its interest rate are among the essential considerations that need to be made when calculating the net income. Knowing these particular details can accurately calculate the ROI of your property as time passes.

Tax and Insurance

Property tax and insurance are essential factors in determining a property’s ROI. This is because taxes and insurance are among the numerous expenses that need to be accounted for when calculating ROI.

Both property tax and insurance are similar in the sense that they vary between property, city, and province. There are two expenses whose determination involves a third party—be it an insurance company or a provincial property assessment organization. For example, calculating your annual property tax requires an assessment from a provincial organization to determine the value of your property, which is then multiplied by the total tax rate. In contrast, a particular insurance company determines an insurance rate.

Maintenance and Rehabilitation

You’ve probably encountered repairs or renovations throughout your many real estate investments. From fixing faulty plumbing to rewiring shoddy electrical work, repairs are common for investors—especially those who use house flipping to generate quick profits. Professional repairs aren’t necessarily cheap; depending on the repairs needed for a specific property, this expense can be pretty costly.

Renovations, on the other hand, are typically used by all investors who seek to increase the value of a property with the intention of selling it at a higher price. Rehabilitation encompasses the various expenses, including repairs and renovations, that are used to ‘rehabilitate’ the property and increase its value.

On top of that, electrical and plumbing systems need to be routinely maintained to ensure that amenities remain functional. This is why maintenance and rehabilitation costs need to be considered when determining a property’s ROI.

Equity

As all property owners know, properties can change in value over time. Ideally, any real estate investor would want to build equity within their properties, which is done as investors pay off their loans or mortgages and their property’s market value increases.

This is obviously crucial to investors since the higher the equity, the more money investors are able to use for future investments. Property equity is a critical factor in determining a property’s ROI, as it is a result of paying off loans, which is attributed to the increased income of a property.

Another method, known as the cost method, involves calculating a property’s ROI by dividing the equity of a property by its costs. However, property equity must first be calculated. This is done by subtracting the total cost of the property from its market value.

For example, a property may have been acquired for $300,000. Renovations and repairs cost investors roughly $25,000, which increased the market value of the property to $400,000. With the total cost of this property being $325,000, the equity would be worth $75,000.

Therefore, the ROI can be calculated using the cost method by dividing the property’s equity by its cost. In that case, the ROI in the above example would be calculated as follows:

ROI = $75,000 (equity) ÷ $325,000 (cost) = 23 per cent

Rental Income

Tenants are typically a property’s primary source of income. The number of tenants that are renting out your property, the amount you charge your tenants, and the frequency at which you charge them—be it monthly or annual—all contribute to your property’s income, which affects its ROI. Therefore, having an occupancy rate that is close to 100 percent, with each occupant helping you generate a suitable monthly or annual income, is critical to receiving a better ROI and increasing profits.

While there are myriad ways to calculate ROI, there are various factors that need to be considered to accurately determine it. Luckily for you, numerous online resources, like this ROI calculator for real estate property, help provide experienced and novice investors with the information they need.

Know Your ROI

In the end, it is vital to know your ROI when delving into the world of real estate investing. By calculating your return on investment, you can make accurate and smart decisions while maximizing your profits. Without this key piece of knowledge, you could end up investing in residential properties that will drain your wallet or perhaps prevent you from gaining access to better real estate deals out there that can accelerate your income-generation opportunities. So, moving forward, do your due diligence, crunch the numbers, and calculate your ROI before buying or selling a property. This will make you a confident and successful real estate professional.