Use ROE for Hold/Sell Decisions
When it comes to real estate investing, there’s a metric for every situation. Knowing when to use return on equity instead of cash on cash for example, is the sign of an educated investor. In this article we’ll quickly dissect the return on equity calculation for rental property and then explore its usefulness for making hold/sell decisions.
People Aren’t Calculators
First of all, let’s recognize that the math informs real estate decisions, while people make real estate decisions. Math is entirely rational, formulaic, and totally agnostic. People, on the other hand, are subject to all sorts of biases, ingrained preferences, and emotional influences.
When properly applied, certain real estate calculations and metrics can absolutely help advise your decisions. But they’re still your decisions and it’s sometimes perfectly wise to do the exact opposite of what the math might suggest. People have all sorts of valid goals that don’t necessarily involve money or always seeking the highest possible return.
The sooner you can come to appreciate these types of currents flowing through your own priorities, the better you’ll be able to assess your financial performance in the context of your overall investing goals.
Why Return on Equity, Not Return on Investment
The problem with return on investment (ROI) is that “return” is happening now while the investment happened in the past. You have a time series mismatch, which is dangerous. Internal rate of return (IRR) is one solution, but that’s a topic for another day.
When you’re making a hold vs sell decision, it’s all about the now. Where are you right now, what are your investment alternatives, and how does holding the current asset into the future compare to those other options? Those are the questions you may want to ask yourself.
Figuring out your return on investment (ROI) can be a nice confidence building exercise. You can be proud of yourself for generating a monster ROI percentage, but it’s not at all useful in figuring out what to do next.
The fact is that the “sell” scenario in a hold/sell analysis is entirely a function of the current market value of the rental property. At this point, what you paid or the capital you invested in the past is totally irrelevant. Worse than that, it can lead you astray if you don’t know to ignore it.
Return on Equity Calculation for Real Estate
There are a few different ways to do the math, but the return on equity calculation that we prefer looks something like this for a typical rental property:
(Net Operating Income
less Mortgage Interest)
divided by
(Market Value of Property
less Estimated Sale Costs
less Outstanding Debt Balance)
For a quick example, let’s say you own a duplex and your rental income for the year is $38,000. Your operating expenses are $14,000 and so your net operating income is $24,000. You took out a $300,000 mortgage to buy the property a couple years ago, and your current balance is now $289,000.
Your mortgage payments for the year totaled $17,000 but about $5,000 of that was principal. That means your mortgage interest was $12,000 for the year.
Finally, let’s assume current market value for the duplex is $450,000 and that expected sale costs, inclusive of broker commissions, are 6% in your local market.
Your return on equity (ROE) calculation would look like this:
24,000 NOI
less 12,000 interest paid = 12,000 (return)
450,000 market value
less 27,000 expected sale costs
less 289,000 debt balance = 134,000 (equity)
12,000 / 161,000 = 9.0% return on equity (ROE)
Why Not Include Principal Payments in ROE?
Some real estate investors reflexively include all debt service, including principal payments, in the numerator of the return on equity calculation. The problem with this approach is that principal payments serve to increase your equity position. When you reduce the debt balance, your equity goes up. That means principal payments are already being captured in the denominator, when you subtract the outstanding debt balance to calculate the current equity in the property.
That’s why the best practice is to include interest expense and ignore principal payments when calculating return on equity for real estate investments. Just remember that ROE is more of a conceptual return metric. Don’t confuse return on equity with a current cash flow metric like cash on cash return.
Why Not Include Capital Expenses in ROE?
In theory, wise capital expenses should increase the current market value of the property. That implies that capital you’ve invested in the property has lasting value and is already being reflected in the denominator of the ROE calculation.
Similar to principal loan payments, we like to think of capital expenses as a form of savings, not spending. The money put towards these “expenses” doesn’t just disappear like it does when you pay an electric bill. Principal loan payments reduce your long-term liabilities, while capital expenses should in theory be returned to you in the form of higher sale proceeds in the future.
How to Assess Market Value of the Property?
Nailing down the current market value is honestly the hardest part of calculating an accurate return on equity. Zillow and Redfin will each give you a home price estimate based on their algorithms, so that’s often a good place to start if your property is a single-family rental home.
For duplexes and larger multi-family properties, the consumer websites are highly unreliable. For these assets, applying a market capitalization rate to your forward-looking net operating income is probably your best bet.
Either way, you’ll want to knock 6-7% off the valuation to account for likely sale costs. 5-6% for a typical broker commission and then another 1% for closing costs. If sellers typically pay transfer taxes (also known as doc stamp fees) in your area, you may need to knock off an additional 1% or so to account for these higher sale costs.
The reason you want to do this is that you’re running a hold/sell analysis. If you don’t adjust your equity figure to account for sale costs, you’re overvaluing the asset. A higher market value (denominator) will drive your final return on equity calculation lower. That in turn makes other investments look more attractive, which will artificially tilt the scales towards selling.
How to Use ROE to Make Decisions
Return on equity for rental property is perhaps most valuable when you’re evaluating whether to: 1) continue holding a property or, 2) sell and redeploy that capital elsewhere. Here’s one potential way to approach the question:
Calculate Your Current ROE
Start by calculating your rental property’s current return on equity using the formula above. Be honest about current market value—not what you hope it’s worth or what you paid for it. Use comparable sales, recent appraisals, or consult with a local real estate agent to get an accurate figure.
Compare to Alternative Investments
Once you know your ROE, compare it to what you might reasonably earn with that same equity deployed elsewhere:
Stock market: Historically returns 8-10% annually (S&P 500)
REITs: Real estate investment trusts currently yield around 7% ROE
Other rental properties: What ROE might you achieve buying in today’s market?
Cash-out refinance: Could you pull equity out and buy another property?
Account for Transaction Costs
Remember that selling a rental property isn’t free. You’ll pay:
- Real estate commissions (5-6%)
- Closing costs (~1%)
- Transfer taxes (varies by state)
- Capital gains tax (unless using 1031 exchange)
These costs create friction that makes “marginally better” alternatives less attractive. A new investment may need to significantly outperform your current ROE to justify the transaction costs and disruption.
Consider Non-Financial Factors
ROE is a financial metric, but it can’t account for:
- Management burden: Is this property a headache to manage?
- Risk concentration: Do you have too much wealth in one property?
- Market timing: Do you feel your local market is at peak valuation?
- Personal goals: Are you nearing retirement and wanting to simplify?
- Emotional attachment: Sometimes you just love a property and can’t sell.
These qualitative factors can tip the scales when ROE calculations are close.
Review Annually
Your rental property’s return on equity changes over time as:
- Property values fluctuate
- Rents increase or decrease
- Mortgage balances decline
- Operating expenses change
Make it a habit to recalculate ROE annually, typically when you’re preparing tax filings and have fresh financial data. This regular review can help you spot declining returns before they become serious problems.
What’s a Good ROE for Rental Property?
The “right” return on equity for rental property depends on current market conditions, your investment alternatives, and your personal risk tolerance. But here are some useful rough benchmarks, based on average market conditions in 2026:
ROE Benchmarks for 2026
Below 5% ROE:
This is “lazy money” territory. Your equity is likely significantly underperforming compared to more passive alternatives like REITs (currently ~7%) or even money market funds (~4%). Unless you have strong non-financial reasons to hold, properties with ROE below 5% may be prime candidates for sale or cash-out refinancing.
5-8% ROE:
Moderate performance. This range is comparable to what you might earn from a diversified REIT portfolio with much less management effort. At this level, the decision to hold vs. sell may depend heavily on:
- Transaction costs of selling
- Tax consequences (unless using 1031 exchange)
- Quality of alternative investment opportunities
- Your personal involvement and management burden
8-12% ROE:
Solid performance that likely exceeds most passive alternatives and keeps pace with historical stock market returns. Most investors would be comfortable holding rental properties in this range, especially if they’re low-maintenance and in appreciating markets.
12-15% ROE:
Strong performance. Properties in this range are clear “holds” for most investors. This level of return on equity is difficult to beat consistently with alternative investments, especially after accounting for transaction costs and taxes.
Above 15% ROE:
Exceptional performance. Properties achieving this level of return on equity are rare in established markets and are generally worth holding. Returns above 15% typically only occur in:
- High rent growth emerging markets
- Heavily leveraged properties with low equity
- Properties with significant operational efficiencies (low operating costs)
Adjusting for Market Conditions
These benchmarks assume market conditions similar to prevailing averages in 2025-2026:
- Mortgage rates: 6-7% for investment properties
- Stock market: Trading near historical valuation highs
- REITs: Yielding 6-8%
- Treasury rates: 4-5%
If market conditions shift significantly, adjust your ROE expectations accordingly. For example:
- If mortgage rates drop to 4%, ROE of 6-8% becomes more acceptable
- If stock market valuations compress, ROE above 10% becomes more attractive
- If treasury rates spike to 7%, even 10% ROE may not justify the risk
The ROE Threshold for Action
Many sophisticated real estate investors use 10% ROE as a trigger point. When a rental property’s return on equity drops below 10%, they seriously evaluate:
- Cash-out refinance: Pull equity out, maintain ownership, but redeploy some capital
- 1031 exchange: Sell and roll proceeds into higher-performing property
- Strategic hold: Accept lower returns for specific strategic reasons
This 10% threshold isn’t a hard rule, but it’s often a useful benchmark that accounts for the opportunity cost of capital and the risks inherent in direct real estate ownership.
Geographic Variations
ROE expectations can vary significantly by market:
High-appreciation markets (San Francisco, Seattle, NYC):
Investors may accept lower current ROE (4-6%) in exchange for expected appreciation. Cap rates are low, but property values have historically grown steadily.
Cash-flow markets (Midwest, Southeast):
Properties should generate higher current ROE (10-15%+) since appreciation prospects are more modest. If ROE is below 8% in these markets, the investment may be underperforming.
Vacation rental markets (Hawaii, Florida, Colorado):
Higher ROE expectations (12-18%) due to seasonality, management intensity, and regulatory risk. Lower ROE doesn’t typically justify the additional complexity.
Comparing to Alternative Investments
Here’s how rental property ROE stacks up against hypothetical alternatives in 2026:
| Investment | Expected Return | Risk Level | Management Effort |
|---|---|---|---|
| Rental property (good ROE) | 10-15% | Medium-High | High |
| S&P 500 Index | 8-10%* | Medium | None |
| REITs | 6-8% | Medium | None |
| Corporate bonds | 5-7% | Low-Medium | None |
| Treasury bills | 4-5% | Very Low | None |
| High-yield savings | 4-5% | Very Low | None |
*Historical average; not guaranteed
As this table shows, you may want your rental property ROE to significantly exceed passive alternatives (8%+) to justify the additional work, risk, and illiquidity.
When Lower ROE Might Make Sense
There are likely many legitimate reasons to continue holding a rental property with “below-benchmark” ROE:
Avoiding capital gains tax: If you have massive gains and aren’t doing a 1031 exchange, staying put may beat selling and paying 20%+ to the IRS.
Pre-retirement planning: If you’re within 5 years of retirement and want stable, predictable income, holding a paid-off or low-leverage property with 6% ROE might align with your goals better than chasing higher returns.
Estate planning: If you’re passing the property to heirs, they’ll receive a stepped-up basis. Holding a 7% ROE property to avoid capital gains may be smart.
Market timing concerns: If you believe your local market is temporarily depressed and will recover, accepting lower current ROE while waiting out the cycle can be rational.
The key is being intentional about these trade-offs rather than simply not noticing your declining returns.
Return on Equity vs. Other Rental Property Metrics
Return on equity for rental property is just one of many powerful analytical tools at your disposal. Here’s how it compares to other common metrics:
Cash-on-Cash Return: Measures annual cash flow divided by cash invested. Useful when first buying, but becomes less relevant over time as your equity grows through appreciation and principal paydown.
Cap Rate: Net operating income divided by property value. Ignores financing entirely. Useful for comparing properties but doesn’t account for your specific leverage situation.
Internal Rate of Return (IRR): The gold standard for measuring total return over a holding period. Accounts for cash flows, appreciation, and timing. More complex to calculate than ROE but gives the most complete picture.
Return on Investment (ROI): Total gain divided by original investment. Backward-looking metric that’s useful for measuring historical performance but not ideal for forward-looking hold/sell decisions.
For hold/sell decisions specifically, we’ve always found that return on equity is the most relevant metric because it focuses on current performance relative to current equity—exactly the comparison you want to make in a hold/sell analysis.
Bottom line: In our estimation, return on equity for rental property is your most important metric when deciding whether to hold a property or to sell it in favor of another investment opportunity. Calculate it annually, compare the results to realistic alternatives, and seriously consider selling or refinancing when your equity is underperforming. In 2026, it could make sense to target a ROE of 10%+ as the inflection point for some rental properties, with adjustments of course based on your market, the current management burden, and your overall investment goals.
