Calculating the profitability of a rental property in Canada, involves several key financial metrics that help you assess the potential return on your investment. Here’s a step-by-step guide with examples:
Step 1: Determine Rental Income
Calculate the potential rental income by researching similar properties in your area. Consider factors like size, location, and amenities. For example, if a similar property rents for $1,200 per month:
Potential Rental Income = $1,200/month
Step 2: Estimate Operating Expenses
Estimate all ongoing expenses associated with the property, including property taxes, insurance, maintenance, utilities, property management fees (if applicable), and any other relevant costs. For instance:
- Property Taxes: $2,000/year
- Insurance: $800/year
- Maintenance: $1,000/year
- Utilities: $1,200/year
- Property Management: $1,500/year
Total Operating Expenses = $6,500/year
Step 3: Calculate Net Operating Income (NOI)
Subtract the total operating expenses from the potential rental income:
NOI = Potential Rental Income – Total Operating Expenses
NOI = $14,400 – $6,500 = $7,900/year
Step 4: Calculate Cash Flow
Cash flow is the money left after all expenses, including mortgage payments, are deducted from the NOI. If the annual mortgage payment is $8,000:
Cash Flow = NOI – Annual Mortgage Payment
Cash Flow = $7,900 – $8,000 = -$100/year
In this example, the property has a negative cash flow, indicating that the expenses exceed the rental income.
Step 5: Calculate Return on Investment (ROI)
Calculate the ROI by dividing the annual cash flow by your initial investment. If your initial investment (down payment, closing costs, repairs, etc.) was $40,000:
ROI = (Cash Flow / Initial Investment) x 100
ROI = (-$100 / $40,000) x 100 = -0.25%
In this case, the ROI is negative, indicating that the property is not currently yielding a positive return on your investment.
These calculations provide a basic overview of rental property profitability. It’s important to note that real estate investments involve various factors and risks, such as potential vacancy, property appreciation, and tax implications. Additionally, the rental market and expenses can change over time.
*Information presented here is for information purposes and should not constitute the bases for making financial or legal decisions. Every transaction is unique and thus may require professional advice from a Realtor, Mortgage Broker, Home inspector, Lawyer, Financial adviser, and Property Assessor tailored to your specific situation and need. We advice that you seek professional help before making any financial decision.
References:
Government of New Brunswick. (2023). Property Taxes. Retrieved from https://www2.snb.ca/content/snb/en/sites/property-tax.html (Accessed on 07-09-2023)
Insurance Bureau of Canada. (2023). Property Insurance. Retrieved from https://www.ibc.ca/nb/home (Accessed on 07-09-2023)
The Balance. (2023). Rental Property Expenses: What You Can Deduct. Retrieved from https://www.thebalance.com/rental-property-expenses-what-you-can-deduct-4584359 (Accessed on 07-09-2023)
Canada Mortgage and Housing Corporation (CMHC). (2023). Calculating the ROI on Your Rental Property. Retrieved from https://www.cmhc-schl.gc.ca/en/finance-and-investing/investment-property/how-to-calculate-roi-on-your-rental-property (Accessed on 07-09-2023)
*Image Credit Unsplash
