Calculating ROI Question

[Nilay Shah]

when calculating your ROI on a rental property - do you eliminate the principal portion of your mortgage payment since you are essentially paying yourself?

For example:

Purchase Price: $174,000
Mortgage: $120,000
Out of Pocket Costs: $76,000

Monthly Expense:
Mortgage Payments: $535 (year one average monthly interest = $341)
Taxes: $357
HOA: $210
Total Monthly Expense: $1102 a month

Yearly Income: ($1750rent x 12) = $21,000 - $13,224 = $7776 profit

7776/76,000 = 10% ROI

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OR would you calculate ROI with the $341 interest payment

Monthly Expense:
Mortgage Payments: year one average monthly interest = $341
Taxes: $357
HOA: $210
Total Monthly Expense: $908

Income: ($1750rentx12) = $21,000 - $10896 = $10,104 profit

10,104/76,000 = 13%

thanks

[Dion DePaoli]

ROI = Return on [YOUR] Investment

Your cost basis is your investment that does not include any principal from a loan. The money you spent out of pocket including down payment, closing costs, inspections, etc, etc.

Figuring out the ROI is straight forward. The NET proceeds of the asset divided by the cost basis of the investment. Since ROI (and most other return calculations) are all NET numbers, there is no need to include interest or principal payments on loans since those are expenses against your Gross Income.

[Gross Income] minus [Expenses*] = Net Income
[Net Income] \ [Cost Basis] = Return on Investment

*Expenses include all expenses related to the asset such as payments on debt service (principal and interest), taxes, insurance, repair, closing costs, etc, etc.

Gross Income = $21,000
Expenses = $13,224
Net Income = $7,776

ROI = $7,776 / $75,000 = 10.4%

I reread your post before posting mine and I see you wrote:

"do you eliminate the principal portion of your mortgage payment since you are essentially paying yourself?"

If you are your own Lender, you actually didn't Lend anything, you invested all the money. Would you eliminate the principal if you were your own lender? No. It is a part of your total cost basis. How you pay yourself back is another matter but it still is factored into the ROI.

If you have a third party lender, then I have no idea what you mean by 'paying yourself'. You are paid the Net Income.