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How It Works
Return on equity measures the profit you earn relative to the equity you have invested. The simple form divides annual after-tax cash flow by your initial cash investment. The resale form uses current equity (resale value minus mortgage balance).
ROE changes over time as the mortgage is paid down and the property appreciates. The resale version captures this evolving equity position.
Example Problem
You invest $80,000 as a down payment and earn $9,600/year in cash flow after taxes.
- Simple ROE = ($9,600 / $80,000) × 100 = 12%
Five years later, the property is worth $450,000 with a $280,000 mortgage balance. Equity = $170,000. If CFAT is still $9,600, the resale ROE is ($9,600 / $170,000) × 100 = 5.65%. This declining ROE may signal it is time to sell or refinance.
Frequently Asked Questions
What is a good ROE for real estate?
Many investors target 10–15% ROE on rental properties. Leveraged properties often achieve higher ROE in early years. If ROE drops below alternative investment returns, consider selling or refinancing.
Why does ROE decrease over time?
As you pay down the mortgage and the property appreciates, your equity grows faster than cash flow. Your denominator increases while the numerator stays flat, reducing the percentage return.
How is ROE different from cash-on-cash return?
Cash-on-cash measures pre-tax cash flow against initial investment. ROE measures after-tax cash flow and can use either initial investment or current equity. ROE accounts for tax effects and evolving equity.
Related Calculators
- Cash on Cash Rate Calculator — pre-tax cash flow returns.
- Capitalization Rate Calculator — property returns before financing.
- Profitability Index Calculator — rank investment opportunities.
- Net Operating Income Calculator — compute NOI for property performance analysis.
- Loan to Value Calculator — assess leverage that affects equity returns.
Reference: Gallinelli, Frank. What Every Real Estate Investor Needs to Know About Cash Flow. McGraw-Hill Education.