Cash on cash return is a financial metric used by real estate investors to evaluate the profitability of an investment property. It measures the annual return on the actual cash invested, helping investors compare different opportunities and make informed decisions.
Understanding Cash on Cash Return
The cash on cash return is calculated by dividing the annual pre-tax cash flow by the total cash invested. This percentage indicates how much cash income an investor earns relative to their initial investment.
For example, if an investor puts $50,000 into a property and earns $5,000 in cash flow annually, the cash on cash return is 10%. This metric helps investors assess the efficiency of their investment and compare it with other options.
Calculating Cash on Cash Return
To calculate cash on cash return, follow these steps:
- Determine the total cash invested, including down payment, closing costs, and any initial repairs.
- Calculate the annual pre-tax cash flow, which is the rental income minus expenses such as mortgage, taxes, insurance, and maintenance.
- Divide the annual cash flow by the total cash invested and multiply by 100 to get the percentage.
Using Cash on Cash Return in Decision-Making
Investors use cash on cash return to compare potential properties and determine which offers the best return relative to their cash investment. A higher percentage indicates a more profitable investment.
It is important to consider other factors such as property appreciation, tax benefits, and market conditions alongside cash on cash return to make comprehensive investment decisions.