Real Estate Deal Analysis & Advice

How Much Profit Should You Make on a Rental Property?

Expertise: Landlording & Rental Properties
28 Articles Written
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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

cash-on-cash-return

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.

Cash-on-Cash Return

Cash-on-cash return (CoC) is a widely used metric for calculating real estate investment profitability. It measures the yearly return on an investment based on cash invested and net operating income. CoC will vary greatly depending on your financing method, such as whether you bought a property with cash instead of using a loan. According to most experts, aim for a CoC that yields between 8% and 12%.

Related: Cap Rate and Cash-on-Cash Return: A Definitive Guide

Capitalization Rate

In real estate, capitalization rate (aka cap rate) is the ratio of net income to the purchase price of the property. For example, a $200,000 property that you rent for $1,500 per month would lead to a net operating income of $12,000 each year. This equates to a capitalization rate of 6%.

A successful cap rate depends on a variety of factors. In a less desirable neighborhood with risks or safety concerns, 6% might not be worthwhile. But in a high-demand neighborhood with reliable tenants, 6% might be a great return.

The 1% Rule

This is a quick and easy tool to help investors evaluate the potential of a property. The 1% rule says that the amount grossed through monthly rent should be at least 1% of the final property purchase price.

For example, a $300,000 property should rent for at least $3,000 per month. If this doesn’t match market prices or seems unreasonable, the investment likely isn’t worth it. Again, factors like property size and location need to be taken into account.

Related: The Top 8 Real Estate Calculations Every Investor Should Memorize

Assessing Whether a Rental Property Is a Good Investment: Factors To Consider

Young woman looking over the City of London at sun set.

While real estate investment has significant benefits, that doesn’t mean you won’t face hardships and challenges along the way. Having a solid understanding of your financial situation and the potential of the property you’re interested in is crucial, but you’ll also need to consider the unexpected expenses that are likely to arise.

Will you take care of the property yourself and manage any tenants? How will you prepare for an emergency repair like a burst pipe or leaky roof? What are your long-term financial goals? All of these questions will ultimately impact the profitability of your real estate investment.

Here are a few other factors to keep in mind when evaluating an investment opportunity:

  • Initial investment: How much money will you be putting up and for how long? An amazing ROI might not be worth it if you’re spending every penny of your savings to purchase the home, leaving no room for error.
  • Property condition: If the property is going to need significant repairs or updates in the near future, calculate these costs into the purchase price of the home.
  • Rent-to-mortgage ratio: If you’re investing in a rental property, do the math to make sure the numbers have you coming out on top. If the expected rent payment is not going to cover your mortgage, insurance, taxes, and association dues, then it’s not a good investment.
  • Property location: You can change a lot of things about a property, but you can’t change the neighborhood it’s located in. Even the nicest house in the worst neighborhood might not turn out to be a profitable investment.

Any investment is about weighing the risks versus rewards, and investing in real estate is no exception. Do your homework and understand the numbers. If the numbers don’t make sense, it’s time to walk away and look for the next opportunity.

How do you prefer to measure your returns?

Tell us what you think makes a property a good investment in the comments.

Aside from being a landlord and real estate investor himself, Nathan founded Rentec Direct, a software company that serves the rental industry. Today he works with over 13,000 landlords and property managers by providing them automation software and education to effectively manage their rentals.
    Shirley Wen Rental Property Investor from San Francisco Bay Area
    Replied about 2 months ago
    This is very helpful as I'm looking to purchase a rental property. This particular one is in a great location with great potential to increase rent in the future. Not much fixings needed. But it does not hit the 1% rule, not sure how much I can hackle down the final purchase price.
    Deanna Opgenort Rental Property Investor from San Diego, CA
    Replied about 2 months ago
    It's hard to hit1% on FMV in much of the country (though it could be 1% of purchase price, if you purchased at a good time).It's different for every investor depending on what you need the property to do (appreciate over time, or provide cash flow right now). My criteria is that the property has to support itself while it buys itself. I don't have to take anything out, but I refuse to spend $ every month to support it. It's what works for me, but that's because I've been buying for future income, not current.
    Katrina Evans New to Real Estate from Lynchburg
    Replied about 2 months ago
    Hi Shirley maybe your property will appreciate as you hope and you can make money in the next few years from appreciation. Good Luck.
    Mark Jones Investor from Raleigh, North Carolina
    Replied about 2 months ago
    I have always looked at the 1% rule as a starting point in my analysis. Mine is actually higher than 1%. If it does not meet that criteria then I look elsewhere. If it does meet that criteria then I do more analysis. Don't let your emotions drive you. This is a business. If you still want to look at the property see what your cash flow is.
    Ron Gantt Investor from Chino Hills, CA
    Replied about 2 months ago
    Well said. Cash flow is king. The investment would be well suited to support itself while being paid off. If not you’ve purchased a liability not an asset.
    Melsi Bifsha
    Replied about 2 months ago
    Thank you Mark
    Richard Sheltra from Silver Spring, MD
    Replied about 2 months ago
    Well I agree with this article and have been making a great amount of profit on my tenants over the last 3yrs (mortgage $1100 rent $2200) but I have own this house for 20+ yrs. I do have a issue that's now become a problem. The current renter has turned to be pretty much aggressive when and if she does answer emails or texts. The issue is she was 3 months now late, just gave me $500 towards it but doesn't respond to emails of "what her plan is to catch up on her late bills." so I'm now trying to decide what direction to go and I also need to research the eviction laws in MD now with covid etc. I know people are having hard times but she also subleases the basement which I was supposed to get a copy of and just realized when she put the last ones out she didn't give me a copy of this one. It's in the lease contract that she will. I'm not sure what constitutes breach of contract or what avenue to go now. I would prefer she just pay up and stay until June when the lease is up. I also have a contingency in the lease that if I'm selling, I give her 60 days notice and she has to go. So there is that thought as well. This is a very desired neighborhood, so much that I have recently received calls from other real estate flippers/investors trying to offer cash to off load it, without me even looking or searching for this. So I'm looking for some advice. Do I try to be a nice guy and send her another email stating she has X amount of days to respond or I will be forced to take this further? What is the advice of the gallery H?
    Deanna Opgenort Rental Property Investor from San Diego, CA
    Replied about 2 months ago
    So sorry to hear this. My thoughts would be first, assess whether she isn't paying because she CAN'T or if her income is the same. "Agressive" can be fear and frustration, or she could just be a jerk. If she has no "plan" to catch up, it would be pretty normal for her to ignore the e-mails. If she has her normal income, but is feeling entitled to live for free because of covid the approach is very different. I would send a polite e-mail reminding her that she is required to send the paperwork for the sublease
    Deanna Opgenort Rental Property Investor from San Diego, CA
    Replied about 2 months ago
    ...in a separate e-mail from any demand for payment. It's a separate issue, it costs her nothing, and Covid is no excuse for not sending the paperwork.
    Brian Anderson Investor from Londonderry NH
    Replied about 2 months ago
    @Richard Sheltra. Call an attorney for a consult. It sounds like you have multiple issues with regards to covid, breach and non-payment. Does your lease specifically allow or prohibit sub-leasing? If this was my lease, any act of subleasing would be a breach and cause for eviction. I never let a tenant sublease as you lose control of who has tenancy rights to your home. Each investor is free to do as they wish (within the law) but I feel that subleasing is an unnecessary and unacceptable risk. Best of luck!!!
    Aaron Mosher
    Replied about 1 month ago
    yeah, Richard, she's not paying. She won't. Maybe she'll leave when the lease is up, but why would she? Talk to a Maryland attorney about the eviction options. Covid complicates things, but it is -not- necessarily a complete bar to action. And the eviction moratorium is likely ending this month anyway. If you do let her stay, for whatever reason, make sure you consult her lease for any notice requirements at the end of her term. Often the landlord is required to give 60 days' (or another time frame) notice of nonrenewal, so make sure you do that...or she could legally stay at the end.
    Richard Sheltra from Silver Spring, MD
    Replied about 1 month ago
    Yes I will be talking with an attorney tomorrow. I gave her a polite email trying to get a responce, even text her last night about the email and no responce on either one. No I most definitely will not be letting her stay after the lease agreement is up. I am at the point of having a lot of equity in the home anyways, and I'm better off (since I'm a GC for last 20+yrs) at flipping this money into other projects or properties to flip the cash more. Just getting her out and getting the amount she owes me is surely going to be the hard part, or so I Image.
    Deanna Opgenort Rental Property Investor from San Diego, CA
    Replied about 2 months ago
    Just my 2 cents worth; Doesn't hurt to talk to the potential buyers, just so you know if they are likely to offer a $number you would find acceptable or if they are wanting to pay pennies on the dollar (lots of offers are bogus -- like the guy offering to "help me out" of my "pending foreclosure" with an equity loan on the house that I am renting LOL). I'd find out whether the tenant is just choosing not to pay (because she due to Covid she doesn't have to) or isn't paying because she can't (loss of income). If it's by choice, finding out that you are considering selling as a direct result of her non-payment could straighten the situation out (if she doesn't have income you risk pushing the "fight" button on the "fight or flight" response, if that makes sense). If she doesn't have income, have you considered offering to let her break her lease? The sublease is a separate matter, and should probably be addressed politely in a separate email, followed by a letter, then certified letter if you don't get a response. Realistically, a Judge isn't likely to evict just because she didn't give you paperwork unless it turns out she was trying to hid a problem sublease (ie they are a convicted drug dealer or sex offender and there's a school nearby, or something like that).
    Richard Sheltra from Silver Spring, MD
    Replied about 1 month ago
    Thank you all for the speedy answers. I am emailing her nicely and once again trying to find out her intentions. If I don't get a reply I will be forced to take further action. Answering the questions thou, 1st. More then likely this is her being an ass. Her attitude over the last year has drastically changed and been aggressive. Being someone who has dealt with people and personalities all my life in other careers, you can tell she is used to getting her way and bucks when she doesn't. 2) as far as the sublease, I believe it aloud it as long as I was aware and signed off on it. I will have to double check on that but at my other home right now (firehouse lol) will check in the am when I get off. Once again I'm glad I asked for advice and got replies 😁 it's hard for me not to be aggressive at this point but I will bite my tounge and go with the given advice.
    Jon Sokolnik
    Replied about 2 months ago
    Hey Nathan! I've created my first investment property out of a condo that I first lived in for 5 years. What is the best way to fairly evaluate the start up cost of my investment given that I lived in it first. Whenever I think about this it seems unfair to evaluate it's total purchase cost the way I would if I bought a brand new property today because of the value that I received while living in it. Thanks!
    Deanna Opgenort Rental Property Investor from San Diego, CA
    Replied about 2 months ago
    If you sold it for fair market value what would you net? That's a good starting point for the "starting cost". Pretend you sold your condo, bought an identical one, and got an amazing interest rate on the mortgage. If the property has appreciated you might run the numbers for selling that one (and taking the capital gains tax free), but often you'll find that the selling/purchasing costs exceed the tax savings - especially if a new mortgage would be hard to get or have a higher rate because it's non-owner occupied. Always good to run the numbers both ways though.
    Peter Severino
    Replied about 2 months ago
    The 1% rule in this article (first time I ever heard of it) makes no sense whatsoever. Gross means nothing, taxes and other expenses vary so much by demographic. I have a property where I make 1.5% times gross per month ant the property doesn't cash flow at all because the taxes are so high. On the other hand I have a property where gross is .75 and it has a tax abatement and tenants pay all their own utilities and it cash flows. I would never trust this formula, CAP rates never fail.
    W Goode
    Replied about 2 months ago
    I agree with you. We need to calculate all risks into our investments. I always figure out my taxes before entering the 1% criteria. I just assumed that's what everyone does? If someone struggles to understand the taxes usually your loan entity can you get an estimate on it. I have a much more complex spreadsheet for knowing when to purchase or not and it comes down to at least $300 cashflow (including estimated vacancy and maintenance). More rural portfolio most of my properties are less than $1k in rents/mo.
    W Goode
    Replied about 2 months ago
    Also, I think the 1% rule breaks down as you get into anything over 150K
    Jennifer Rysdam Rental Property Investor from Cleveland, MN
    Replied about 2 months ago
    Some of the examples in here are off. Rent doesn't equal income. In CAP rate you say that it's income/purchase price, but then use rent/purchase price in the example. In the ROI example: It's not income/expenses, it's income/original investment. You used rent/purchase price. I just don't want people to be confused and use the wrong numbers.
    Immanuel Sibero from Carrollton, TX
    Replied about 2 months ago
    Agreed! This article lost me at cap rate. Cap rate is not a measure of performance. It does not even belong in the article if the title is "How Much Profit Should You Make on a Rental Property?". Cap rate is a poor measure of profitability. I share your concern about about readers being confused by this article, not to mention the incorrect use of variables in formulas (as you pointed out). Can anybody just write a blog on this forum?? No vetting whatsoever?? The author really needs to do a search on "cap rate" right here on BP to learn about the gross misconceptions surrounding cap rate, and misuse of cap rate.
    Alan Mackenthun from Prior Lake, Minnesota
    Replied about 2 months ago
    The basic premise of the article is sound, but it trivializes the calculations and doesn't offer any actionable information. The 1% rule, formerly known as the 2% rule is generally useless. There's no mention of expenses other than the purchase price, maintenance or vacancy. I used to use 25% CoC returns, but that was during the crash and that's pretty much impossible to find anymore. Anyway, find or make a spreadsheet with all the assumptions on vacancy, appreciation, taxes, maintenance, etc, etc. Decide what your goals and standards are and then evaluate each property to be considered. The one thing I'd never do is buy anything where the rent assuming reasonable vacancy doesn't cover all anticipated expenses. It's not a business if you reasonably have to expect to add money over time just to keep it going.
    Sol Solomon from San Francisco, California
    Replied about 2 months ago
    Interesting read. For me, however, I earn a negative amount on one of my rentals each month, but I'm still making money. This is because the portion of the rent that is going towards my principal is larger than the expense/income deficit. I think people over look equity in their calculations. And regarding the 1% rule, that works if you bought your property a while ago; very hard to do with a new purchase these days.
    Brian Anderson Investor from Londonderry NH
    Replied about 2 months ago
    Agreed. It's very hard to find any 1% rule homes right now. So do we all stop buying??? I personally put the equity increase and appreciation in the 'back' of my calculator. That way, I analyze only on income to expenses and cash outlay. The equity and appreciation are bonuses that I can't cash in on right away but they are HUGE in building wealth long term.
    Will Henderson Investor from Dallas, Texas
    Replied about 2 months ago
    Agree with Jennifer, cap rate would use NET income (not gross annual rents, as used in the example). You need to subtract all other expenses (taxes, insurance, etc.) from gross rents, in order to calculate the cap rate. Refer to the link provided in this article for a correct breakdown: "Related: Cap Rate and Cash-on-Cash Return: A Definitive Guide"
    John Murray from Portland, Oregon
    Replied about 2 months ago
    I'm been playing this game a long time. Profit is derived in many ways. Paper loss, mortgage paydown, appreciation, safe harbor tax benefits and pass through loss just to name a few. It's a tax game, put simply. You cannot make a profit if your AGI is high, just can't do it. You must learn to throttle your income and capital gains/loss in a given tax year to maximize your profit. This may actually involve hard manual labor too.
    Dave Toelkes Investor from Pawleys Island, South Carolina
    Replied about 2 months ago
    The original poster and many responders use the term "profit" incorrectly. In the most basic terms, PROFIT is the difference between sale price and purchase price. A rental property produces either a positive or negative CASHFLOW during the holding period. Cashflow is the amount of money left over each month after all the rental ownershp and operating expenses have been paid. Cashflow and Profit are not the same and are not interchangable terms. Cashflow analysis is the tool seasoned buy and hold rental property investors use to determine whether a particular property would be a good addition to a rental portfolio. Seasoned investors look at the 50% rule and the debt service coverage ratio to assess a property. The 1% rule, 2% rule, cap rate, gross rent multiplier, ROI,, COC, and any other metric mentioned in this thread are not really serious considerations in making a decision to purchase a 1-4 unit rental property. I use the 50% rule to initially screen a property. If half of the potential rental income will cover 125% of the debt service, then I spend time and effort to pin down the actual expense amounts for my cash flow analysis. If the net operating income from the cashflow analysis is greater than or equal to 125% of my expected debt service, then I would seriously consider adding the property to my rental holdings.
    John Murray from Portland, Oregon
    Replied about 1 month ago
    The capital gain/loss is the difference between buy and sell price, which is part of profit. Profit is derived from the money intake-money out- tax tax burden= Profit . Capital Gain/Loss is taxed differently than simple income and earned income. There are only 3 types of income Capital Gain, Portfolio (simple income) and Earned Income (a job or self employment). The most evil is self employment earned income not from an employer. AGI will dictate your tax burden or MAGI if you one of those tax payers with other debt burden. Once your portfolio and RI has reached the multimillions, the taxpayer can throttle AGI and reduce tax burden. Earned income is not a problem because there is none.
    Brian Anderson Investor from Londonderry NH
    Replied about 2 months ago
    Unfortunately, the title of the article isn't even answered except for 'it depends'. As many above have pointed out, there's a few things wrong with the article and I won't pile on here. I will say that (in my experience and opinion) the answer to "How Much Profit Should you Make on a Rental Property?" is: you should make enough that YOU feel it was worth your time, opportunity cost and financial risk. For each investor, that's a different number. Some will want to build equity without concern for monthly cash flow as a long term play. Some need a cash flow paycheck. Some want to beat other investment vehicles such as the stock market. There are many many reasons to invest in RE, find your reason, find a deal that make sense to you and check yourself with the input from more seasoned investors, but always start with a goal and make sure that your investment moves you positively toward that goal!