Cash on cash (CoC) provides an easy way for real estate investors to compare the profitability of similar income-producing properties or compare it to another investment opportunity quickly.
CoC, however, is not a particularly powerful tool for measuring rental income property profitability and receives less attention in real estate investment analysis today than it did a few years ago.
One deficiency lies in the fact that cash for cash does not take into account the time value of money. The cash-on-cash yield should be limited to simply measuring the first year’s cash flow of a residential income property and not future year’s cash flows.
However, cash on cash is not without validity and still offers seasoned and novice real estate investors a benefit that has always been attributed to its popularity.
The CoC return measures the ratio of the anticipated first year cash flow to the amount of initial cash investment made by the real estate investor to purchase the rental property. Therefore, CoC is always expressed as a percentage.
“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. “Initial investment” (cash invested; sometimes called acquisition cost) is the total amount of cash invested, including down payment, loan points, escrow and title fees, appraisal, and construction costs. inspection.
Okay, let’s start with an example and then do the math.
Suppose you are interested in purchasing a property with six units, each of which pays $1,000 per month in rent. You estimate that the operating expenses for the first year will be $28,800. You are planning a new mortgage with a down payment of $126,000, loan points of $2,940, and a monthly payment of $1,956. You estimate your closing costs (escrow, title, inspections, and appraisal fees) to be $2,100.
Formula: Annual Cash Flow / Cash Investment = Cash to Cash Yield
In this case, you will need to perform five calculations (to determine Annual Cash Flow and Cash Investment) before you can calculate cash over cash.
- Annual rental income: (6 units x $1,000) x 12 = $72,000
- Net operating income (NOI; income minus expenses): $72,000 – 28,800 = $43,200
- Annual Debt Service (mortgage payment): $1,956 x 12 = $23,472
- Annual CashFlow (net operating income minus pay): $43,200 – 23,472 = $19,728
- Cash investment (down payment + points + closing costs): $126,000 + 2,940 + 2,100 = $131,040
Calculation: (Annual Cash Flow / Cash Investment = Cash over Cash Return) $19,728 / $131,040 = 15.06%
Now that you know that this specific investment opportunity generates a CoC return of 15.06%, you can compare it to similar properties or alternative investments, such as a T-Bill rate, and decide whether or not to proceed with the purchase.
