Internal Rate Of Return IRR

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Internal Rate of Return — IRR — is the annualized percentage return an investment earns over its entire holding period, accounting for the timing of…

Internal Rate of Return — IRR — is the annualized percentage return an investment earns over its entire holding period, accounting for the timing of every cash flow in and out.

It’s the metric that commercial investors, syndicators, and private equity funds actually use to compare deals. Cap rate is a snapshot. Cash-on-cash is a one-year view. IRR captures the full lifecycle: purchase, annual cash flows, tax benefits, appreciation, and eventual sale.

Why Timing Matters

IRR gives more weight to money received sooner. Getting $10,000 in year one is more valuable than getting $10,000 in year five because you can reinvest that earlier money. This time-value-of-money concept is what separates IRR from a simple average return calculation.

Two investments might both return $100,000 over five years on a $200,000 investment. But if one pays most of that return in years one and two while the other pays it mostly in year five, the first deal has a higher IRR — even though the total dollar return is identical.

A Simplified Example

You invest $80,000 (down payment + closing costs) in a rental property. Over five years:

  • Year 1-5 cash flow: $6,000/year ($30,000 total)
  • Sale proceeds after paying off mortgage: $120,000
  • Total return: $150,000 on $80,000 invested

The simple return is 87.5% over 5 years, or about 17.5% per year. But IRR, which accounts for the timing of those cash flows, might calculate to 19-21% depending on exactly when money comes in. The precise number requires a financial calculator or spreadsheet (Excel’s IRR function handles it).

What’s a Good IRR?

Targets vary by investment type:

  • Core/stabilized properties: 8-12% IRR
  • Value-add deals: 13-18% IRR
  • Opportunistic/development: 18-25%+ IRR
  • Syndications marketed to investors: typically promise 15-20% IRR

Be skeptical of projected IRRs above 20% unless the deal involves significant value creation or development upside. Every proforma looks great — the question is whether the assumptions are realistic.

IRR Limitations

IRR assumes you can reinvest cash flows at the same rate, which is rarely true. It also doesn’t tell you the total dollar amount — a 25% IRR on $10,000 is far less meaningful than a 15% IRR on $500,000. Always look at IRR alongside total equity multiple (how many times you get your money back).

Run initial projections with our mortgage calculator and read the buying guide for property analysis fundamentals. Explore more metrics in the glossary.