How To Calculate Cash on Cash Return | The Method And Formula!

Cash on cash (CoC) provides an easy way for real estate investors to compare the profitability of similar income-producing properties or gauge it against another investment opportunity quickly.

Cash on cash, however, is not a particularly powerful tool for measuring the profitability of rental income property and currently gets less attention in real estate investment analysis than it used to receive some years ago.

One shortcoming lies in the fact that cash on cash return does not take into account time value of money. Cash-on-cash return must be restricted to simply measuring a residential income property's first year cash flow and not its future year's cash flows.

Nonetheless, cash on cash is not without validity and still offers seasoned and beginning real estate investors a benefit that has always attributed to its popularity.

Method

Cash-on-cash return measures the ratio between anticipated first-year cash flow to the amount of initial cash investment made by the real estate investor to purchase the rental property. Hence, cash on cash is always expressed as a percentage.

The Formulation

The "first-year cash flow" (or annual cash flow) is the amount of money the property is expected to generate during the first year of operation. The "initial investment" (sometimes called total investment) is the total amount of cash invested including down payment, loan points, and cost of acquisition (escrow and title fees, appraisal, and inspection costs).

Formula

Annual Cash Flow / Total Investment = Cash on Cash Return

Calculation

To show you how to make the calculation let's consider an example.

Suppose you are interested in purchasing an apartment building with the following assumptions and want to determine what your cash-on-cash rate of return would be from the investment.

*Acquisition costs $5,000
*6 units total
*Rent $1,000 each monthly
*5% vacancy allowance
*Other income $720 annually
*Operating expenses $27,781 annually
*Replacement reserves $1,800 annually
*Mortgage $350,000, loan points $3,500, annual payment $25,181

Okay, now let's use that data to determine the "annual cash flow" and "total Investment" required to compute for the cash-on-cash rate of return.

Annual Cash Flow

  1. Gross Scheduled Income ((6 units x $1,000) x 12): = $72,000
  2. Gross Operating Income (GSI - vacancy + other income): $72,000 - 3,600 + 720 = $69,120
  3. Net Operating Income (GOI - operating expenses): $69,120 - 27,781 = $41,331
  4. Annual Cash Flow = (net operating income - replacement reserve - debt service)
  5. Result: $41,331 - 1,800 - 25,181 = $14,350

Total Investment

  1. Total Investment = (down payment + acquisition costs + loan points)
  2. Result: $150,000 + 5,000 + 3,500 = $158,500

Calculation:
Annual Cash Flow / Total Investment = Cash on Cash Return
$14,350 / $158,500 = 9.05%

Now that you know this specific real estate investment yields a 9.05% cash on cash return, you can compare it to other similar investment real estate, or alternative investments such as a T-Bill rate, and decide whether or not to proceed with a purchase.

Sample (CoC in report)

Source: ProAPOD Real Estate Investment Software
Source: ProAPOD Real Estate Investment Software

Sample (CoC calculation)

Source: iCalculator by ProAPOD Real Estate Investment Software
Source: iCalculator by ProAPOD Real Estate Investment Software

About the Author

James Kobzeff is a real estate professional and the owner/developer of ProAPOD - leading real estate investment software solutions since 2000. Create cash flow, rates of return, and profitability analysis on rental property at your fingertips in minutes! Learn more at www.proapod.com

ProAPOD also provides iCalculator - an online real estate calculator that enables you to learn dozens of real estate definitions and formulas as you calculate. You save 64%. Learn more at real estate calculator

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Comments 1 comment

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Property-Invest 7 years ago from London

Hey James!

Great to read some decent, practical content written by a real property investor.

Keep up the super work.

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