What is Net Present Value (NPV)?
Net present value (NPV) is the difference between the present value of cash inflows and the present value of cash outflows over a period of time. It uses a discount rate to convert future cash flows into today's dollars, answering the question: is this investment worth more than it costs, considering the time value of money?
How NPV works
NPV discounts each future cash flow back to the present using a required rate of return (the discount rate). If you expect to receive $10,000 per year for 5 years from a rental property and then sell it for $200,000, NPV calculates what all those future dollars are worth today. If the NPV is positive (meaning the present value of inflows exceeds the cost of the investment), the deal is theoretically worth pursuing.
The discount rate
The discount rate represents your required return or the opportunity cost of capital. A common choice is the rate you could earn on an alternative investment with similar risk. If you could earn 10% in the stock market, you might use 10% as your discount rate. A positive NPV at 10% means the real estate investment is expected to outperform a 10% alternative.
NPV vs IRR
IRR tells you the rate of return where NPV equals zero. NPV tells you the dollar value of an investment at a given required return. They are complementary: IRR helps you rank investments by return rate, NPV helps you rank them by absolute value created. For most real estate decisions, either metric works, but NPV is more reliable when comparing investments of different sizes.
Practical use
Most individual real estate investors do not calculate NPV formally. They use cap rate, cash-on-cash return, and ROI as simpler proxies. NPV is more common in institutional real estate analysis, development projects, and portfolio-level decisions where the time value of money across multi-year hold periods is significant.