What Is a Good Debt to Equity Ratio for Real Estate Investors?

When most people think of debt, they see it as a burden. But in the world of real estate investing, debt can actually be a powerful tool. For example, mortgage lenders help investors leverage their investment to allow more significant investment than they have in free capital. To strike the right balance, it’s essential to understand the debt-to-equity ratio for real estate — a key metric that reveals how much of an investment is funded by debt versus the investor’s own capital. 

Table of Contents

What is Debt-to-Equity Ratio

What Does the Debt-to-Equity Ratio Tell Us

How to Calculate Debt-to-Equity Ratio

When Should Investors Use the Debt-to-Equity Ratio?

What Is a Good Debt-to-Equity Ratio for Real Estate Investors

Limitations of the Debt-to-Equity Ratio

Investors' Debt to Ratio Change Over Time

Why Investors May Increase Their Debt-to-Equity Ratio

Alternatives to the Debt-to-Equity Ratio

What Is Debt-to-Equity Ratio

The debt-to-equity ratio for real estate measures the debt outstanding on your home compared to your equity. From an investor's standpoint, it’s the amount of long-term debt owed for every dollar of equity. The higher debt-to-equity ratios are, the more risk a lender takes because there’s less “skin in the game.”

So, what does debt to equity ratio mean in practice? Consider it a measure of how much debt you have compared to how much you own. The more an investor owns, the less likely they are to stop making mortgage payments if the real estate market experiences trouble. A good debt-to-equity ratio may differ by the investor, though.

What Does the Debt-to-Equity Ratio Tell Us

The debt-to-equity ratio is a financial ratio that tells lenders and investors a lot about the investment. It’s a measure of ownership and riskiness that lenders and investors can use to make investment decisions. When you compute debt to equity ratio, you’re essentially showing how much of the property is financed by debt versus how much is financed by equity, helping both investors and lenders gauge financial health and potential risk.

High Debt-to-Equity Ratio 

A high debt-to-equity ratio means there is a lot of debt compared to equity in the property. Lenders consider this risky because a real estate investor doesn’t have much of their own working capital invested. In other words, the lender has more at stake than the investor. This could make it more challenging to secure purchase financing or refinance existing properties.

Low Debt-to-Equity Ratio

A low debt-to-equity ratio means a real estate investor has more invested in the property than they owe. This is a low risk for lenders because investors have more to lose than lenders. Tapping into the home's equity or refinancing for better terms is more accessible with low debt-to-equity ratios.

Debt-to-Equity Ratio vs. Gearing Ratio

While often used interchangeably, the debt-to-equity ratio and gearing ratio are slightly different measures of financial leverage. The debt-to-equity ratio compares total debt to total equity, showing how much of an investment is financed by borrowed funds versus an investor’s own capital. The gearing ratio, on the other hand, typically focuses on long-term debt compared to equity or overall capital employed, offering a broader view of financial risk. 

How to Calculate Debt-to-Equity Ratio

To calculate debt-to-equity ratio, you must know the outstanding loan amount and the property equity and then apply the debt to equity ratio formula.

Here’s how to find debt-to-equity ratio:

Mortgage loan balance / Property equity = Debt-to-equity ratio

Here’s an example of debt-to-equity ratio calculation:

You purchase a property for $300,000, making a $75,000 down payment. You have $225,000 in debt and $75,000 in equity. Calculating the debt-to-equity ratio looks like this:

$225,000 ÷ $75,000 = 3.0

This means for every $1 you own in the home, you owe $3.

Debt-to-Equity Ratio Calculator

You can calculate a property’s debt-to-equity ratio using the standard formula or use an online debt-to-equity ratio calculator to save time. Learning how to find debt to equity ratio is especially helpful when comparing multiple properties or evaluating a portfolio. It can also streamline decision-making for passive real estate investments, such as real estate investment trusts (REITs), where quick calculations are essential.

Calculating Debt-to-Equity Ratio in Excel

If you prefer a hands-on approach, you can easily calculate the debt-to-equity ratio in Excel using a simple formula. Start by entering your total debt in one cell and your total equity in another. In a third cell, type the formula:

=Debt/Equity

For example, if your property debt is entered in cell A2 and your equity in cell B2, you would type:

=A2/B2

Excel will instantly return the ratio, showing how much debt you have for every dollar of equity. You can also format the cell to display the result as a ratio (e.g., 3.0) or percentage. For investors with multiple properties, Excel makes it easy to set up a table and apply the same debt-to-equity ratio formula across all rows, providing a quick portfolio overview.

When Should Investors Use the Debt-to-Equity Ratio?

The debt-to-equity ratio is most useful when investors want to evaluate the balance between risk and return in their financing strategy. Real estate investors should use this metric when applying for loans, since lenders often review leverage ratios before approving financing. It’s also helpful when comparing properties within a portfolio, as it highlights which assets carry higher debt loads and which are more equity-driven. 

Additionally, investors can use the ratio to benchmark themselves against industry norms or competitors, ensuring their financial structure remains sustainable. Finally, the debt-to-equity ratio is valuable during market downturns or refinancing, helping investors assess whether their leverage is manageable under changing conditions.

What Is a Good Debt-to-Equity Ratio for Real Estate Investors

An excellent debt-to-equity ratio somewhat varies by investor. It also depends on whose perspective you're looking at it from.

Lenders, for example, want a low ratio. The lower the ratio, the more investment you have in the property. This lowers a lender's risk of losing everything. For example, if you invest in a property with a 10% down payment and property values decrease, leaving you with little to no equity, what stops you from throwing the keys on the counter and walking away from the property?

On the other hand, if you have more money invested, say 25%, you have more skin in the game, aka more to lose. Therefore, you are less likely to walk away from the investment even if values fall.

Limitations of the Debt-to-Equity Ratio

While the debt-to-equity ratio is a valuable tool for assessing leverage, it has several limitations investors should keep in mind. 

1. It relies on book values from balance sheets, which may not reflect the true market value of real estate assets or equity. This can distort the ratio, especially in markets where property values fluctuate quickly. 
2. The ratio does not account for cash flow, meaning two investors with the same ratio could have very different abilities to service their debt. 
3. Industry differences can make comparisons misleading. What is considered a “safe” ratio in commercial real estate may look very different in residential or development projects.
4. The debt-to-equity ratio is a snapshot in time; it doesn’t capture future changes in income, expenses, or refinancing opportunities. For these reasons, investors should use it alongside other metrics, such as loan-to-value ratio (LTV) or debt service coverage ratio (DSCR), to get a complete picture of financial health.

Investors' Debt to Equity Ratio Change Over Time

Debt-to-equity ratios can change over time as the real estate market changes. In addition, your mortgage repayment patterns also affect the debt-to-equity ratios. As you pay your mortgage balance down, you have less debt and more equity.

How Does Debt-to-Equity Ratio Decreases Over Time

Most debt-to-equity ratios decrease over time because real estate appreciates and mortgage balances decrease with regular payments.

Say, for example, you bought a home for $200,000 two years ago. The average appreciation over the last two years is 18%, so today, the property is worth $236,000. When you bought the home, you made a $40,000 down payment.

When you bought the home, your debt-to-equity ratio was $160,000/$40,000 = 4

Today, the home is worth more. At this point, you owe $155,300 on your mortgage. Your ratio low looks like this:

$155,300/$80,700 = 1.92

This is a much lower risk for lenders.

How Can a Debt-to-Equity Ratio Increase Over Time

Like any investment opportunities, the real estate industry can decline too, causing real estate investors to lose money. In the long term, properties appreciate, but there could be hills and valleys along the way. This can cause a debt-to-equity ratio to increase.

For example, say you bought an investment property for $200,000, investing only 15% in the property. However, you did your research, and the area has appreciated regularly, so you felt comfortable leveraging your real estate investment with long-term debt.

Unfortunately, the real estate industry had trouble in the area you invested in, and homes lost an average of 15% over the last couple of years.

When you bought the property, your debt-to-equity ratio was:

$170,000/$30,000 = 5.6

After the decline, though, your ratio increased to the following:

$162,440/$7,560 = 22.4

This shows how market conditions alone can shift leverage dramatically. Understanding how to compute debt equity ratio is essential for tracking these changes and managing long-term investment risk.

Why Investors May Increase Their Debt-to-Equity Ratio

Real estate investors may want to increase their debt-to-equity ratio in certain situations. This is the case when they can improve their return on equity.

The return on equity is a ratio of property cash flow to property equity. The higher the return on equity, the better the investment. For example, if you own a property with a 1.0 debt-to-equity ratio, you own just as much as you owe. Let's say you earn $10,000 a year in cash flow, and your equity in the property is $100,000 (it's a $200,000 property).

Your return on equity is:

$10,000/$100,000 = 10%

If you pull money out of the home's equity to increase your real estate portfolio and buy more properties, you increase your debt and decrease your equity. For example, the higher debt decreases your cash flow to $8,000 and your equity to $35,000.

Your return on equity increases to:

$8,000/$35,000 = 22%

However, your debt-to-equity ratio increases to 4.7 versus 1.0.

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Alternatives to the Debt-to-Equity Ratio

While the debt-to-equity ratio is a useful measure of leverage, it shouldn’t be the only metric investors rely on. Other financial ratios can provide a more complete picture of an investor’s risk management and repayment capacity, including:

• Loan-to-Value Ratio (LTV): Compares the loan amount to the property’s market value; commonly used by lenders to determine acceptable mortgage risk.
• Debt Service Coverage Ratio (DSCR): Measures a property’s net operating income against its debt obligations to assess if cash flow can cover loan payments.
• Interest Coverage Ratio: Evaluates how easily an investor can pay interest expenses with operating income, highlighting the ability to handle financing costs.

By combining these alternatives with the debt-to-equity ratio, investors gain a more reliable and well-rounded view of their financial position and borrowing capacity.

Debt-to-Equity Ratio FAQs

Do you want a high or low debt-to-equity ratio?

Each real estate investor has a different threshold for financial risk. A high debt-to-equity ratio puts the lender and investor at higher risk. If the industry declines, the lender and investor have a lot at stake (and a lot to lose). Some investors prefer the higher risk because there's more reward. Others prefer a lower ratio of debt-to-equity for reduced risk and average returns.

What debt-to-equity ratio do lenders prefer?

Most mortgage lenders prefer a ratio of 2.0 when comparing debt to equity, but this can vary. Like mortgage guidelines, all lenders have different requirements. Some will take more chances than others, like investors have different risk tolerances.

What is the average debt-to-equity ratio for investors?

The average ratio for debt-to-equity for real estate investors is around 2.0, which is what lenders prefer. This gives investors the highest chance of loan approval. However, some investors have much higher or much lower ratios based on their risk tolerance and preferences.

What is considered a healthy debt-to-equity ratio for investors?

A healthy ratio when comparing debt-to-equity is 3.0 for investors. This gives investors the chance to leverage their debt with a mortgage but not be so far in debt that they'd be at risk if property values decreased.

Debt-to-Equity Ratio for Real Estate: The Bottom Line

It is important to understand how the debt-to-equity ratio for real estate works and how to compare it to your investment. The ratio can help you make important investment decisions as you do your due diligence to determine if a real estate investment is worth it. Learn more by signing up and visiting our blog.