Net profit vs. gross of your real estate investment

Net profitability vs. gross is one of the concepts that every investor must master. In fact, it is a binomial with a lot of weight in the real estate investment sector. Learn how to differentiate both concepts by reading our post.

In essence, profitability measures the ability of an asset to generate profits. This benefit can be expressed both with an exact amount (e.g. €5,000) and with a percentage (e.g. 8%). It is thanks to this metric that we can compare various investment opportunities and evaluate their evolution over time.

Nothing better than an example to illustrate the profitability of a real estate investment. Imagine that you buy an apartment in Alicante for € 200,000 and its rent generates € 10,000. Such a 5% profit indicates how profitable, in the raw, your investment is.

Why is profitability so important in your investments?

The real estate market is full of options where we can invest our money, but not all of them are equally convenient. Precisely, profitability is one of the most important criteria when it comes to orienting ourselves towards the most profitable investments.

Of course, profitability is not the only factor to consider when investing in real estate. There are other aspects that we must also consider (risk, liquidity, long-term benefits, financial stability, etc.). What is beyond doubt is that this is one of the variables that have the most weight in the decisions we make as investors.

Differences between net and gross profitability

In this comparative table net profitability vs. gross we present to you how they differ from one another. We will examine their respective calculation formulas separately, in order to provide examples that will finally clarify these concepts.

Calculation of gross profitability

To calculate the percentage gross real estate profitability we must use the following formula:

Gross profitability (%) = Annual gross income / Total purchase price of the property × 100.

As we saw in the contrast net profitability vs. gross, investment-related expenses (e.g. mortgage interest) are not taken into account here. What is included in the purchase price are the costs associated with the purchase (e.g. VAT / ITPAJD).

Example:

We bought an apartment for €250,000 and rented it for €1,500 per month.

Calculation of annual gross income: €1,500 x 12 months = € 18,000. Application of the gross profitability formula: Annual gross income (€18,000) / Total purchase price of the property (250.000€) × 100 = 7,2%.

Calculation of net profitability

The formula that we must use to calculate the percentage net real estate profitability is the following:

Net profitability (%) = Annual income − Annual expenses / Total purchase price of the property × 100.

As we saw in the comparison net profitability vs. gross, investment-related expenses are included here. That is why this financial concept gives us more realistic information than the previous one.

Example:

We bought an apartment for €250,000 and rented it for €1,500 per month (€18,000 per year). The annual expenses associated with this investment amount to € 4,850 (€1,200 tax + € 1,000 maintenance + € 250 insurance + € 2,400 mortgage).

Application of the net return formula (%) = Annual income (€18,000− - Annual expenses (€4,850) / Total purchase price of the property (250.000€) × 100 = 5,26%.

How net and gross profitability affect real estate investments

When comparing net profitability vs. gross, we realize that both are very useful for the real estate investor. Actually, one and the other act in two times:

• The gross profitability gives us a first sketch of the most advantageous real estate investments. Thanks to her, we can quickly compare a wide variety of available options. It is of great interest for short-term investors (e.g. flipping).
• Net profitability adds certainty to that first approximation supplied by gross profitability. By applying this metric we will be able to evaluate the viability and risk of the investment. Consequently, it is very valuable for long-term profiles.

Impact on the evaluation of properties

As we are seeing, a good investor should manage these two types of real estate profitability together. The gross helps you to filter properties to discard the less profitable ones. The net allows you to choose, among those selected in that first phase, the most sustainable investments.

By definition, net profitability will always be lower than gross profitability. Ergo, in a first approach we should stay with the highest gross yields. Next, we will apply that one to discern which investments will be able to generate a truly sustainable cash flow.

Tips to improve the profitability of an investment

Strategies to increase income:

• Adjust the rental price to the current market.
• Establish short-term rentals if the property is located in a tourist area.
• Carries out strategic reforms (house staging) to increase the value of the property.

Strategies to reduce expenses:

• Preventive maintenance is always cheaper than repairs.
• When it comes to hiring insurance, financing solutions and maintenance services, compare prices.
• Find out about the tax deductions that you can access as a landlord.

Strategies to optimize the investment strategy:

• Outsource the management to invest more safely and enhance the competitiveness of your real estate assets.
• Establish a contingency fund (its value should be equivalent to 1-2% of the property price).
• Diversify your investment portfolio with different locations and types of properties.

Common mistakes in the calculation of profitability

• Confusing gross and net profitability.
• Getting carried away with gross profitability without stopping to consider net profitability.
• Calculate the gross or net return using the purchase price instead of its market value.
• Forgetting or underestimating any of the expenses related to the property when calculating the net return.
• Ignoring the impact of rent gaps.
• Not updating the calculations over time.
• Include the surplus value in the annual profitability.
• Basing profitability on projected revenues without checking the market.

Be clear about the difference between net profitability vs. brute is just the first step. The next thing is to trust Muppy to increase the yield of your real estate properties safely with our all-in-one management.

Frequently asked questions about profitability

What is considered a good real estate return in Spain?

A good real estate return in Spain is around 6-8% (gross) and 4-7% (net).

What other factors influence real estate profitability?

• Location of the property.
• Type of property.
• State of the property.
• Rental demand in the area.
• Type of rental (tourist vs. residential).
• Demographic changes.
• Professional management.
• Legislation on rental matters.
• Empty.
• Economic cycles.

What tools can I use to calculate real estate profitability?

There is a wide range of digital tools that make it easier for you to calculate net and gross profitability. Such is the case of online calculators and personalized spreadsheets.