How do I calculate a return on investment (ROI) for a rental?

Return on investment measures what a rental earns you relative to the money you put in. It answers the question every investor asks: for the capital I invest, what return do I get? The simple version divides annual cash flow by your invested cash, and the fuller picture adds principal paydown, depreciation, and appreciation over time.

ROI is the summary number that turns a property's performance into something comparable across deals. The challenge is deciding what counts as the return and what counts as the investment.

Cash-on-cash return divides your annual cash flow by the cash you invested, usually the down payment plus closing costs. If you put $50,000 into a rental that generates $5,000 in annual cash flow, the cash-on-cash return is 10 percent. It is the most direct measure of what the deal earns on your actual cash.

This version focuses on cash flow alone, which makes it easy to compare and understand. It does not yet capture the other ways the investment pays you.

The fuller ROI adds principal paydown, depreciation, and appreciation to the cash flow. Each month the tenants pay down your mortgage, building equity. Depreciation provides a tax benefit, and appreciation grows the property's value. Together with cash flow, these form the total return over time.

For long-term investors, the total return is usually far larger than cash flow alone, which is why a property that breaks even monthly can still be a strong investment. The fuller measure shows the whole picture.

Calculate ROI consistently for every property you consider, and use it alongside the cash flow and the total return. A deal with a high cash-on-cash return and strong total return is a clear winner. One that looks great on cash flow but weak on total return, or vice versa, requires judgment about your goals.

Keep the calculations conservative and the expenses realistic. ROI is only as trustworthy as the numbers behind it, and a rosy assumption can make a weak deal look strong.