Cash on cash return is one of the most important pieces of information to know about an investment property. A property’s cash on cash return is a vital metric of evaluating its investment opportunities. Normally, you could calculate CoC return by using an investment property calculator. By using an interactive rental property calculator, like Mashvisor’s, you can easily calculate CoC return by computing all the necessary costs. While we strongly recommend using a rental property calculator, you can always calculate CoC return on your own, especially if you want to understand the concept better. Without further ado, here’s how to calculate cash on cash return.
Related: Why You Should Consult a Rental Property Calculator First
Cash on Cash Return Formula
Here’s a formula for all you math junkies out there.
Cash on Cash Return = Annual Before-Tax Cash Flow ÷ Total Cash Invested
As you can see, the cash on cash return is the rate of return of an income property based on the property’s cash flow before tax deduction and the total amount invested in the property. Now that we’ve covered how to calculate cash on cash return, let’s discuss the two factors used in this calculation.
Breaking Down Cash on Cash Return Factors
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Annual Pre-Tax Cash Flow
In order to know how to calculate cash on cash return, you must know how to calculate annual pre-tax cash flow.
Annual Pre-Tax Cash Flow = Net Operating Income – Debt Service
By expanding on the net operating income, the formula becomes:
Annual Pre-Tax Cash Flow = (Gross Scheduled Rent + Other Income – Operating Expenses – Vacancies) – Debt Service
To better understand how to calculate cash on cash return, let’s break down these factors one by one.
The gross scheduled rent is the amount of income you would receive if your rental properties were occupied 100% of the time. You can calculate this by multiplying the properties’ gross rents by twelve.
The ‘other income’ part of the formula refers to any other kind of income charged with the rental property. For instance, are there parking fees associated with the property? Are there vending machines in the commercial property? Income from these two methods would fall under other income.
Related: 5 Creative Ways to Increase Rental Income
Operating expenses are expenses that keep the property in service. Some operating expenses include association fees, insurance, taxes, utilities, and renovations. When it comes to vacancies, you need to find out the actual vacancy of the property. This is calculated as the number of days the property was vacant multiplied by the rental rate.
These four factors make up the net operating income of investment properties. The final factor to consider for annual pre-tax cash flow is debt service. Debt service is the amount used to cover interest and principal on a mortgage.
All five of these factors generate the annual pre-tax cash flow, an important variable when wanting to know how to calculate cash on cash return for an investment property. Now we’ll discuss the second main variable, total cash invested.
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Total Cash Invested
To calculate the total cash invested in a rental property, use this formula:
Total Cash Invested = Down Payment + Closing Costs + Repairs
When it comes to the down payment, all you have to do is list the amount paid.
Related: Why You Shouldn’t Put Less Than 20% Down Payment
Computing closing costs is also pretty simple. All you have to do is add up all the costs you have paid to acquiring the property, except the down payment. If you have any seller or lender credits, subtract them from the closing costs. When it comes to repairs, add in the costs used on repairs prior to renting the property.
We’ve covered the factors needed to know how to calculate cash on cash return of a property. To clarify this and put it into practice, let’s do some examples.
Examples
Since there are two ways to purchase a property, with cash or mortgage, there are two examples on how to calculate cash on cash return.
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Purchased with Mortgage
Say a property costs $300,000. To know how to calculate cash on cash return this property has, we have to find out the total cash invested and the annual pre-tax cash flow. Let’s start with the total cash invested. If a down payment of 25% is paid, the down payment of the property is $75,000. If the closing costs and the pre-rental repairs add up to be 4% of the purchase price, we have an additional $12,000 to factor. Therefore, the total cash invested in the property will be the sum of the down payment, closing costs, and repairs, which is $87,000 in this example.
Next, we have to compute the annual pre-tax cash flow. The annual pre-tax cash flow is the net operating expenses subtracted by the debt service of the loan. Let’s say the annual rental income is $30,000 ($2,500 × 12). From this we can estimate the net operating expenses to be two-thirds of the annual rental income. In this example, it would be $20,000. Assuming the rate on the mortgage is 8%, we get a debt service of $18,000 (8% × $225,000). All in all, the annual pre-tax cash flow is $2,000 ($20,000 – $18,000).
So, in this example, the cash on cash return is equal to 2.3% (annual pre-tax cash flow: $2,000 divided by the total cash invested: $87,000).
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Purchased with Cash
If a property is purchased entirely in cash, the answer of “how to calculate cash on cash return” changes slightly. In this scenario, there is no mortgage, and thus no down payment and debt service. So, the total amount invested increases. Using the previous example, it becomes the property price ($300,000) plus the closing and repair costs ($12,000) which equals $312,000. Because there is no debt service, the annual pre-tax cash flow is the same as the net operating expenses. In the example, this expense was $20,000. Overall, the cash on cash return becomes 6.4%.
As you may have noticed, the CoC return increased when purchasing solely with cash. This is not always the case, and will depend on the values of all the different costs.
For more on how to calculate cash on cash return and anything else in real estate, check out Mashvisor.
