Making money in real estate means knowing how to analyze a rental property’s return on investment. A key metric in the return on investment analysis of a real estate investment is the cash on cash return (CoC return). It’s a good indicator of a potential investment’s profitability. The cash on cash return formula is also great for evaluating the performance of a property you already own. As one of the real estate basics, every real estate investor needs to understand the cash on cash return formula. Let’s get straight into it.
The Cash on Cash Return Formula
As we mentioned above, cash on cash return is a key metric in real estate investing. It’s particularly important to understand when it comes to real estate investing for beginners. What is cash on cash return? How to calculate cash on cash return? What is a good cash on cash return? These are all relative questions.
Now it’s important to mention that the cash on cash return isn’t the only metric in real estate investing. There are many different metrics and measures involved in an investment property analysis which measure profitability and performance. Cap rate and the internal rate of return (IRR) are two other important ROI metrics. To see how the CoC return competes with the cap rate, read this: Cash on Cash Return vs Cap Rate. For more on CoC return and IRR, read this: Cash on Cash Return vs IRR.
In real estate, the cash on cash return is the before-tax cash flow of an investment in a given period divided by the equity invested as of the end of that period. It provides a quick and easy way for real estate investors to compare the profitability of similar real estate investment properties, or to gauge it against another (non-real estate) investment opportunity.
The cash on cash return formula is:
CoC Return= (Annual Pre-Tax Cash Flow/ Actual Cash Invested) x 100%
Cash on Cash Return Formula Breakdown
The basic cash on cash return formula is pretty simple, right? After all, you just divide two numbers and multiply by 100 to get it in percentage form. Unfortunately, it’s not as easy as it looks. The actual equation is basic math, but the tricky part arises in finding the two variables of the equation: annual pre-tax cash flow and actual cash invested.
- Annual Pre-Tax Cash Flow= Gross Scheduled Rent+ Other Income- Vacancy- Operating Expenses- Annual Debt Service
The annual pre-tax cash flow is basically the income minus the expenses. To find the gross scheduled rent, multiply the monthly rental income by 12 (to get annual income). If this rental property had any other income-producing opportunities, these would be a part of the ‘other income’.
It’s important to factor in vacancy– the number of vacant rooms/units in the property. Vacancy represents a loss of rental income. Operating expenses are insurance, maintenance, utilities, property management, and repairs. Annual debt service would be your monthly payment to cover both interest and principal related to your loan (taxes are not included).
- Actual Cash Invested= Down Payment+ Closing Costs+ Pre Rental Improvements/Repairs
This part is fairly straightforward. Begin with the down payment required by the lender for the loan you took out on the property. Then add the closing costs associated with the property. The last part is any renovation (repairs/improvements) done to the property before it’s rented out to tenants.
Cash on Cash Return Calculator
We just went through all the details of the cash on cash return formula, and you’re probably quite overwhelmed by all these calculations. There’s no need to be. No one expects you to actually manually perform these calculations. That would be a waste of time and effort. With today’s innovative technology, everything is made faster and easier for us to get our work done. In real estate investing, the cash on cash return calculator is definitely the way to go.
The cash on cash return calculator is a digital tool used to quickly calculate the CoC return of an investment property and its rate of return on investment. You can find a great one at Mashvisor. As a part of our investment property calculator, you can adjust and customize the different values associated with cash on cash return to estimate the return on investment of a rental property. Mashvisor guarantees quick, reliable, and accurate results. To learn more about our product, click here.
Using the Cash on Cash Return in Real Estate Investments
The cash on cash return is a great metric if used appropriately. Many experts recommend only using this metric as a measure of a property’s profitability and performance after the first 12 months of purchase. Because the cash on cash return is only measuring ROI in terms of actual cash invested, you should use it to evaluate a rental property’s first-year performance. We suggest using the IRR for a better investment property evaluation.
You can instead utilize the cash on cash return metric as a screening tool. Use it to compare investments effectively and efficiently. The cash on cash return is an operating cash flow metric. The cash on cash return formula is important to understand if you care about constant positive cash flow during operation. And that’s something every real estate investor should care about if they want to make profitable investments.
Because the cash on cash return is only looking at the net cash flow and comparing it to the actual amount of cash invested, it’s a great indicator of the effect of leverage. Using leverage will decrease or increase your cash on cash return, which makes this metric a great way of measuring different types of financing for investment property.
Finally, the cash on cash return metric is widely used by real estate investors because of its simplicity. For people analyzing multiple real estate investments at a time, using the CoC return metric is a great way to get a quick approximation of property performance. Whether you’re a beginner real estate investor or a pro, understanding the cash on cash return formula and its application is important.
To start using our investment property calculator to find cash on cash return and make the best real estate investments, make sure to sign up. To start out your 14-day free trial with Mashvisor, click here.