Time Value of Money

by | Aug 5, 2025 | Real Estate

Time Value of Money-Real Estate Investment Return Rate


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Time Value of Money

Welcome to the Real Estate Espresso podcast, your morning shot of what’s new in the world of real estate investing. I’m your host Victor Menasce. On today’s show, we’re going to be doing some math. Yes, I know not everybody likes math. We’re going to be discussing the concept of the time value of money and the various measures that are used to illustrate it. These measures are all interconnected through the same mathematical principles.

Despite the perception, addition and subtraction are basically the same operation. If you add a positive number with a negative number, you’re still performing an addition operation. The same principle applies for multiplication and division. In truth, multiplication and division are reciprocal operations and are closely related. When we consider the time value of money, we can discuss present value, future value, and return rates, all of which are linked by these mathematical operations.

Many investors perform a simple return on investment calculation. Although the math is manageable, it doesn’t account for the time value of money. Therefore, in that sense, it’s not the appropriate calculation to perform. Within our company, we utilize the internal rate of return calculation, which is also commonly used by many institutional investors.

Now let’s consider why a dollar in our hands today is worth more than the promise of a dollar ten years or fifty years from now. We would all prefer to have the cash today rather than waiting for it in the future. That’s because we know we can put that money to use which, if all goes well, means we can use today’s money to earn more money in the future.

Assuming you’re assessing whether a new business idea or property investment is worth your money, you’re trying to find out if it’ll increase your wealth. That’s where these concepts come into play. Simply put, $1 today is worth more than a dollar tomorrow because you could invest that dollar and earn interest. Or conversely, due to inflation that future dollar may be worth less. So, money has an associated ‘rent’ over time.

Starting with the future value, let’s say you put $100 into a savings vehicle today and it earns 5% a year. After a year it will be worth $105 and after two years $110.25. That future value is simply the sum of the money today and what it’ll grow into tomorrow at a specific interest rate. This helps you understand the potential growth of your current money.

However, if we reverse that scenario and someone guarantees you $105 a year from now, that $105 isn’t worth the full $105 today. That’s because if you had that money now, you could invest it and earn interest – this is the discount rate. The discount rate is essentially the interest rate you’d expect to earn on a similar investment with similar risk. If your target is a 5% annual return, then $105 in the future is discounted back to its current value using a 5% discount rate. This is the foundation of the net present value calculation.

Let’s say you’re considering investing $10,000 in a project today, which is expected to generate $3,000 a year for the next five years. To genuinely know if that’s a good deal, you need to bring all those future $3,000 payments back to today’s value using the discount rate. The net present value calculates the current value of the future flow of money – incoming and outgoing – all adjusted for the time value of money. If the net present value is positive, it suggests the project offers more value than it costs, making it a good investment. Conversely, a negative net present value means the project will lose money in today’s terms. If the net present value is zero, the project just breaks even after taking into account your required return.

Finally, we come to what is termed the ‘internal rate of return’. This is a unique discount rate. By adjusting the discount rate until the net present value of the project is precisely zero, you have found the project’s internal rate of return. The IRR is the annual percentage rate of return the investment is anticipated to generate over its lifespan.

The great thing about both the IRR calculation and net present value is that neither of them needs to be uniform. For example, if you invest in a bond, you get a fixed rate of interest at regular intervals. However, not all investments deliver uniform income flows. This is where both the internal rate of return and net present value calculations matter. They show you what that discounted cash flow analysis might be for non-uniform income flows. We use them primarily because they are more accurate.

Today we haven’t dived into how to perform these calculations, but if you’re looking to forecast your investment and rates of return more accurately, consider both the net present value and the IRR calculations. Have a fantastic rest of the day and go make some significant things happen!

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