How Is Cash on Cash Return Calculated?

Cash on Cash Return is a financial metric used by real estate investors to evaluate the profitability of an income-generating property. It focuses on the cash income an investment produces relative to the actual cash invested by the owner. This provides a straightforward measure of how much cash an investor receives back annually compared to their initial out-of-pocket investment.

Defining the Inputs

Calculating Cash on Cash Return requires two primary financial figures: the Annual Pre-Tax Cash Flow and the Total Cash Invested. Annual Pre-Tax Cash Flow represents the money left from a property’s operations after all expenses and debt service are paid, but before income taxes. To arrive at this figure, one starts with the gross rental income the property generates. From this, various operating expenses are subtracted, such as property management fees, maintenance and repairs, property taxes, insurance premiums, utilities, and homeowners association (HOA) fees if applicable. After deducting these operating expenses, the annual debt service payments, which include both principal and interest on any mortgages, are also subtracted.

The second component, Total Cash Invested, encompasses all upfront funds an investor puts into acquiring and preparing the property for rental. This includes the down payment, closing costs, and any renovation expenses incurred to make the property rentable or increase its value. Closing costs typically range from 2% to 5% of the total home purchase price for buyers and can include loan origination fees, appraisal fees, title insurance, and attorney fees.

The Calculation Process

Once the Annual Pre-Tax Cash Flow and Total Cash Invested are determined, the Cash on Cash Return is calculated using the formula: (Annual Pre-Tax Cash Flow / Total Cash Invested) x 100. This converts the ratio into a percentage.

Consider a hypothetical example to illustrate this process. Imagine an investor acquires a rental property that generates an Annual Pre-Tax Cash Flow of $12,000. This figure has already accounted for all rental income, operating expenses like property taxes, insurance, and maintenance, and annual mortgage payments. The investor’s Total Cash Invested in this property was $100,000. This sum includes the down payment, closing costs such as appraisal and title fees, and any initial renovation expenses to prepare the property for tenants.

To calculate the Cash on Cash Return, the Annual Pre-Tax Cash Flow of $12,000 is divided by the Total Cash Invested of $100,000. This division yields 0.12. Multiplying this result by 100 converts it into a percentage. Therefore, (12,000 / 100,000) x 100 equals 12%. This calculated percentage represents the property’s Cash on Cash Return.

Understanding the Outcome

The resulting Cash on Cash Return percentage indicates the investment’s immediate cash flow performance. It shows the annual percentage return an investor receives on the actual cash they have put into the property. This metric is valuable for real estate investors as it highlights how efficiently their invested capital generates cash income.

Investors frequently use this percentage to compare different potential investment opportunities. A higher Cash on Cash Return indicates more robust cash flow relative to the initial equity contribution. It also assesses the ongoing performance of an existing property within an investment portfolio. This metric serves as a direct measure of annual cash yield, distinct from overall property appreciation or long-term profitability.