The question ‘what is a good Return On investment (ROI)?’ might seem like a no-brainer at first glance. But once you really start to think about it, you realize that it isn’t actually that simple.
While investors usually have different notions of what is good and what is bad – one investor may be interested in capital appreciation and the other in capital preservation – in general, a good investment is one that gives a decent return.
Moreover, the level of ROI must be proportional the level of risk involved in the investment. This means that you may be willing to take a higher risk for an investment that promises a higher return. Return on investment compares different investments with similar risk levels.
Though it looks like a simple equation, analysing and calculating ROI in real estate is not as simple as it sounds. It’s because there are many factors that real estate investors incorporate when calculating ROI on properties. With so many guides on real estate ROI calculation, it might get confusing for you to start and you may end up making mistakes while analysing investment properties. One of the worst things that could happen to an investor is making investment decisions based on wrong estimates.
What Is a Good Return on Investment for Real Estate Investors?
A high return investment plan considered “good” by one investor may be unacceptable to another. How good the ROI is in real estate varies depending on risk tolerance. The more risk you are willing to take the higher ROI you can expect. Conversely, investors who are risk-averse may happily settle for relatively lower ROIs that come with more certainty.
Return on Investment Does Not Equal Profit
Of course, before return on investment can be realized in actual profits, the property has to be sold. Usually, the property does not sell at its market value. The deal may close below the asking price, which leads to lower final ROI for that property. Also, there are different costs associated with selling properties, such as funds spent on repairs, landscaping, and painting. You can also add in the advertising costs, appraisal costs, and the commission given to the broker or real estate agent.
Both commission and advertising expenses can be negotiated with your service provider. Realtors with one more than one property to sell and advertise are in a better position to negotiate better rates with the brokers and media outlets. Return on investment on multiple sales with different advertising costs, financing, commission, and construction leads to complex accounting issues that are best handled by professionals who have been in this business for years.
The One-Percent Rule
When you start searching investment properties, you will likely have many options to choose from. Rather than getting confused with a complicated equation, simply follow the one-percent rule. It is the rule of thumb that helps investors narrow down their options efficiently and quickly. It is a tool that can be used to determine if a property should be considered or not. The one-percent rule says that you should invest in a property if it gives you a rent of one percent or more of its total upfront cost.
Why does real estate offer the best ROI?
Calculating return on investment on real estate can be very complex sometimes, depending on all the variables we have mentioned above. In a developing economy, Investing in Real Estate – both commercial and residential – has proven to be extremely profitable. Even when the economy is in recession – when prices are falling – many bargains in real estate still prove to be profitable for the investors in the long term. It is because when the economy recovers – which it inevitably does – the real estate investors can reap handsome profits from the favorable circumstances.