Investment Property - How to Calculate Cash on Cash Return

Cash on Cash Return is a much newer and more popular analysis tool amongst real estate investors. The Cash on Cash Return of a property is often times referred to as a property's yield. Cash on Cash Return is a way of evaluating the return on investment of an investment property in relation to your out-of-pocket expense, based on the amount of Annual Net Operating Income the property will yield (not considering income tax) in proportion to your Down Payment and Repair Cost. The Cash on Cash Return formula is calculated by taking the Annual Net Operating Income of an investment property divided by the amount of your Down Payment and immediate Repair Cost.  

So, the Cash on Cash Return formula is: 

Cash on Cash Return = Annual Net Operating Income/(Down Payment + Repair Cost)

Cash on Cash Return example: Let's say you purchase a piece of property for $100,000. You put $10,000 down on the property and spend another $5,000 in repair costs once you own the property. Once you get a tenant, the property will produce an Annual Net Operating Income of $5,000. This property would be said to have a Cash on Cash Return of approximately 33%; (5,000/(10,000+5,000)). So the property will generate an annual income (not considering income tax) of 33% of your out-of pocket cost to acquire and perform the immediate repairs to the investment property. Cash on Cash Returns can range anywhere from negative figures to infinite, so it is difficult to say that there is a typical range. 

Like Cap Rate, the higher the Cash on Cash Return, the stronger the property. In other words, if you are looking at 2 properties that both have a net operating income of $5,000, but one property requires less of a down payment or less repair costs, then that property would have a higher Cash on Cash Return and would be said to be a financially stronger property than the other. The opposite would also be true if you were looking at 2 properties, both requiring the same down payment and repair costs, but one property produced a higher amount of net operating income, then again that property would be said to be a financially stronger property.
 
In the case of Cash on Cash Return, it becomes critical to explore the effects that slight alterations in Down Payment vs. Annual Net Operating Income will have on your yield. Keep in mind that a down payment of 10% vs. 20% on the surface may look to produce a higher Cash on Cash Return (lower out of pocket expense in the down payment), but you have to remember that a 10% down payment will also have a higher mortgage expense that decrease the Annual Net Operating Income. It would need to be analyzed on a property specific basis to see which would be a better solution for that particular property. 

This is where InvestorLoft.com's robust analysis tools ease the property evaluation process. With the simple click of the mouse, you can switch between down payment and mortgage alternatives to find the optimum yield combination for each individual property.