Real Estate Wealth · Definition
What Is an Equity Leak? Definition, Formula & Example
Last updated: August 19, 2026 · By Maria Sierra, Equity Strategy Flow
An equity leak is the annual return a property owner loses when the equity held in a property earns less than the owner's target return. It is measured in dollars per year: Equity Leak = (Target Return − Return on Equity) × Net Equity. A property can be paid down, appreciated, and still leak — because the wealth inside it has stopped working.
The formula
Equity Leak = (Target Return − ROE) × Net Equity ROE = (Cash Flow + Principal Paydown + Appreciation) ÷ Net Equity Net Equity = Market Value × (1 − Selling Costs) − Mortgage Balance
Return on Equity (ROE) is measured on net equity — what you would actually walk away with after selling costs — not on the purchase price and not on your original down payment. That is why ROE falls as a property appreciates and the loan amortizes: the same cash flow is being carried by more and more trapped capital.
A worked example
| Line item | Amount |
|---|---|
| Market value | $850,000 |
| Mortgage balance | $360,000 |
| Net equity (after 6% selling costs) | $439,000 |
| NOI (income − operating expenses) | $19,635 |
| Cash flow (NOI − CapEx reserve − debt service) | −$6,935 / yr |
| ROE (cash flow + amortization + appreciation) | 5.9% |
| Owner's target return | 8.0% |
| Equity leak | ≈ $9,295 per year |
Nothing about this property looks broken from the outside: the tenant pays, the value rises. But $439,000 of stored wealth is producing 5.9% when the owner's alternative is 8% — a silent transfer of $9,295 every year, roughly a down payment on the next property every three to four years.
Equity leak vs. lazy equity, dead equity and trapped equity
They describe the same phenomenon from different angles. Lazy equity and dead equity describe the state of the capital (it sits, it doesn't work). Trapped equity describes its accessibility (you can't spend a brick). Equity leak is the measurement: it converts the state into a number — dollars lost per year — so the owner can decide whether to hold, optimize, or reposition.
| Term | What it describes | Unit |
|---|---|---|
| Lazy / dead equity | The condition of underperforming capital | Qualitative |
| Trapped equity | Wealth you cannot access without selling or borrowing | Qualitative |
| Equity leak | The annual cost of leaving it there | $ / year |
How do you calculate your equity leak? (3 steps)
1. Compute net equity: current value × (1 − selling costs) − loan balance.
2. Compute ROE: add one year of cash flow (after a CapEx reserve), principal paydown and expected appreciation, then divide by net equity.
3. Subtract ROE from your target return and multiply by net equity. If the result is positive, that is your annual leak; if negative, your equity is running a surplus.
What is a good return on equity for a rental property?
| ROE band | Reading | Typical action |
|---|---|---|
| Below 6% | Stored capital — professional threshold to act | Run a repositioning analysis |
| 6% – 8% | Underperforming vs. most owners' targets | Optimize income and costs first |
| 8% – 12% | Healthy for stabilized residential | Hold and defend |
| Above 12% | Equity working hard (often early-stage leverage) | Hold; monitor as equity grows |
Frequently asked questions
Is an equity leak the same as negative cash flow?
No. A property with positive cash flow can still leak if its ROE is below your target — and a young, leveraged property with thin cash flow can have zero leak because its equity base is small. The leak compares the return of your equity against its alternative, not against zero.
Does paying off my mortgage increase my equity leak?
Often yes. Paying down the loan grows your net equity while the property's income stays the same, so ROE falls. That is not an argument against paying down debt — it is an argument for measuring what your equity earns once it is there.
How is this different from a home equity calculator?
A home equity calculator tells you how much equity you have. An equity leak calculation tells you what that equity is earning — and what keeping it there costs you per year. The first number is a balance; the second is a decision.
What can I do about an equity leak?
Four standard paths, in order of disruption: raise the property's income, cut its costs, restructure the debt, or reposition part of the equity into assets that meet your target. Which one applies depends on your DSCR, your market and your goals — that is what a strategy session resolves.
Measure yours in 5 minutes
The number above is not hypothetical — it is the exact calculation our diagnostic runs with your data, with every assumption visible and editable.